PSS WORLD MEDICAL, INC.(Exact name of
Registrant as specified in its charter)

Florida

59-2280364

(State or other jurisdiction

(IRS Employer

of incorporation or organization)

Identification Number)

4345 Southpoint Blvd

Jacksonville, Florida

32216

(Address of principal executive offices)

(Zip code)

Registrant's telephone number

(904) 332-3000

Indicate by check mark whether the
registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of
the Securities Exchange Act of 1934 during the preceding 12 months (or for shorter period
that the registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days.

[X] Yes [ ] No

Indicate by check mark whether the
registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

[X] Yes [ ] No

The number of shares of common stock,
par value $.01 per share, of the registrant outstanding as of February 7, 2005 was
64,638,186 shares.

PSS WORLD MEDICAL,
INC. AND SUBSIDIARIES

DECEMBER 31, 2004

TABLE OF CONTENTS

Item

Page

Information Regarding Forward-Looking Statements

3

Part I - Financial Information

1

Financial Statements:

Consolidated Balance Sheets--December 31, 2004 and April 2, 2004

6

Consolidated Statements of Operations for the Three and Nine Months Ended

December 31, 2004 and 2003

7

Consolidated Statements of Cash Flows for the Nine Months Ended

December 31, 2004 and 2003

8

Notes to Consolidated Financial Statements

9

Report of Independent Registered Public Accounting Firm

25

2

Management's Discussion and Analysis of Financial Condition and Results of Operations

26

3

Quantitative and Qualitative Disclosures About Market Risk

48

4

Controls and Procedures

48

Part II - Other Information

1

Legal Proceedings

49

2

Unregistered Sales of Equity Securities and Use of Proceeds

49

6

Exhibits and Reports on Form 8-K

49

Signature

50

2

CAUTIONARY STATEMENTS

Forward-Looking
Statements

Management may from time-to-time make
written or oral forward-looking statements with respect to the Companys annual or
long-term goals, including statements contained in this Quarterly Report on
Form 10-Q, the Annual Report on Form 10-K for the fiscal year ended
April 2, 2004, Reports on Form 8-K, and reports to shareholders. These
statements are subject to risks and uncertainties that could cause actual results to
differ materially from historical earnings and those currently anticipated or projected.
Management cautions readers not to place undue reliance on any of the Companys
forward-looking statements, which speak only as of the date made.

Words such as
anticipates, expects, intends, plans,
believes, seeks, estimates, may,
could, and similar expressions identify forward-looking statements.
Forward-looking statements contained in this Quarterly Report on Form 10-Q that
involve risks and uncertainties include, without limitation:

the Companys consideration of whether to elect to settle the principal amount of its
convertible senior notes in cash;

the Companys intent to vigorously defend against the claims from the
securities class action lawsuit which is described in Note 11, Commitments and Contingencies;

managements
belief that the ultimate outcome of the various litigation matters described in
Note 11, Commitments and Contingencies, and various other litigation that have
arisen in the normal course of business will not have a material adverse effect on the
Companys business, financial condition or results of operations;

managements
belief that the elder care market is expected to continue benefiting from the increasing
growth rate of the elderly American population;

managements
belief that the physician market is expected to continue to benefit from the shift of
procedures and diagnostic testing in hospitals to alternate sites, particularly physician
offices and home care providers;

managements
belief that the recent changes to Medicare and Medicaid reimbursement rates and the
introduction of the Medicare/Medicaid prescription drug program that became effective
beginning in the U.S. government fiscal year 2004 will positively impact the financial
condition of elder care providers and financial strength of the elder care industry;

managements
belief that nursing home divestitures within the Elder Care Business may continue to
impact fiscal year 2005 as large, national chain customers may continue to divest
underperforming facilities and facilities located in states with high malpractice claims,
insurance costs, and litigation exposure;

managements
belief that its strategy of centralizing the procurement and disbursements functions has
resulted, and will continue to result, in efficiencies and savings that will increase
gross profit;

managements
expectation that gross profit as a percentage of net sales may decrease in future periods
due to an expected increased sales volume of pharmaceutical products and diagnostic
equipment in the Physician Business, which generally generate lower gross profit margins;

managements
expectation that gross profit as a percentage of net sales may increase in future periods
as a result of growth in ancillary billing services in the Elder Care Business;

3

managements
anticipation that rising fuel costs may negatively impact both the Physician
Business and the Elder Care Business cost to deliver or expected improvements
in cost to deliver during the remainder of fiscal year 2005 and fiscal year 2006;

managements
expectation that the results of the Internal Revenue Service (IRS) audit of
the Federal income tax returns for fiscal years 2002 and 2003 will not have a material
impact on our financial condition or consolidated results of operations;

managements
expectation that the net operating loss generated as a result of the sale of the Imaging
Business will be carried forward and applied against regular taxable income in future
years;

managements
expectation that the overall growth in the business will be funded through a combination
of cash flows from operating activities, borrowings under the revolving line of credit,
capital markets, and/or other financing arrangements;

managements
belief that the Company may seek to retire its outstanding equity through cash purchases
and/or reduce its debt and may also seek to issue additional debt or equity to meet its
future liquidity requirements;

the
possibility that the Company may seek to issue additional debt or equity to meet its
future liquidity requirements;

managements
expectation that the implementation of the JD Edwards XE® distribution modules at the
Elder Care Business distribution centers beginning in fiscal year 2005 and continuing into
the second quarter of fiscal year 2006 will be successfully completed without disrupting
the operations of the business;

managements
expectation that the net sales and the sales mix for the fiscal year ended April 1,
2005 will continue to be impacted by the Medicines and Healthcare Products Regulatory
Agencys, a U.K. regulatory body, action to suspend Chiron Corporations license
to manufacture the Fluvirin® influenza vaccine; and

managements
belief that the Congressional Joint Committee on Taxation will uphold and approve the
agreed-upon settlement with the Appeals Office of the IRS.

In connection with the safe
harbor provisions of the Private Securities Litigation Reform Act of 1995,
management is identifying important factors that could affect the Companys financial
performance and could cause actual results for future periods to differ materially from
any opinions or statements expressed with respect to future periods in any current
statements. The Companys future results could be adversely affected by a variety of
factors, including:

pricing
and customer credit-quality pressures due to reduced spending budgets by healthcare
providers;

government legislation that imposes changes
in reimbursement rates to the Companys customers or changes in reimbursement rates to the
Companys ancillary billing services Company;

the
Companys dependence on sophisticated data processing systems that may impair
business operations if they fail to operate properly or not as anticipated;

competitive
pricing pressures related to the Companys sales to large nursing home chains and
consolidating provider groups;

the
loss of any significant distributorship agreements, the renegotiation of terms and
conditions of existing agreements, and the Companys reliance on current
relationships with vendors;

maintaining
good relations with employees including over 800 sales professionals;

the
concentration of revenues among a limited number of customers in the Elder Care Business
and the loss of a significant customer;

4

the
Companys level of indebtedness, which may limit its ability to obtain financing in
the future and may limit flexibility to react to market conditions;

the
potential interest and penalty exposure related to existing and future IRS audits;

litigation
and liability exposure for existing and potential claims;

the
Companys failure to execute its business plan and strategies for growth;

the
adoption of new accounting pronouncements or Securities and Exchange Commission rules and
regulations, including the proposed amendment to Statement of Financial Accounting
Standards No. 128, Earnings Per Share;

the
costs of complying with the provisions of Section 404 of the Sarbanes-Oxley Act;

the
Companys failure to comply with Federal and state regulations pertaining to filing
claims for health care reimbursement or changes in the interpretation of those
requirements;

the
Companys inability to obtain certain medical supplies and pharmaceuticals due to
vendor supply disruptions, including influenza vaccines;

operational
disruptions due to natural disasters, particularly in regions susceptible to hurricanes;

the
potential impact of Chinas currency revaluation;

the
Companys failure to successfully integrate the operations of a long-term medical
supply distributor, which was acquired on October 7, 2004; and

the potential for a change in a states legal system that would impact the enforceability
of the non-solicitation covenants.

In addition, all forward-looking
statements are qualified by and should be read in conjunction with the risks described or
referred to in Item 7. Managements Discussion and Analysis of Financial
Condition and Results of Operations, under the heading Risk Factors
of the Annual Report on Form 10-K for the fiscal year ended April 2, 2004.

1. BACKGROUND AND BASIS
OF PRESENTATION

Nature of Operations

PSS World Medical, Inc. (the Company or
PSSI), a Florida corporation which began operations in 1983, is a specialty
marketer and distributor of medical products, equipment, and pharmaceutical related
products to alternate-site healthcare providers including physician offices, long-term
care facilities, and home care providers through 43 full-service distribution centers,
which serve all 50 states throughout the United States of America (U.S.). The
Company currently conducts business through two operating segments, the Physician
Business and the Elder Care Business. These strategic segments serve a diverse customer
base. A third reporting segment, titled Corporate Shared Services, includes allocated and
unallocated costs of corporate departments that provide services to the operating
segments.

The Physician Business, or the
Physician Sales & Service division, is a leading distributor of medical
supplies, diagnostic equipment, and pharmaceutical related products to primary care
office-based physicians in the U.S. The Physician Business currently operates 29
full-service distribution centers, 22 break-freight locations, and two redistribution
facilities serving physician offices in all 50 states.

The Elder Care Business, or the Gulf
South Medical Supply, Inc. subsidiary, is a leading national distributor of medical
supplies and related products to the long-term and elder care industry in the U.S. In
addition, the Elder Care Business offers Medicare Part B billing services, either on a
fee for service or a full assignment basis, and provides products reimbursable under
Medicare Part B. The Elder Care Business currently operates 14 full-service
distribution centers, two break-freight locations, and one ancillary billing service
center serving independent, regional, and national skilled nursing facilities, assisted
living centers, and home care providers in all 50 states.

Historically, the Company conducted
business under a third operating segment, the Imaging Business. On November 18,
2002, the Company completed the sale of the Imaging Business, or the Diagnostic Imaging,
Inc. subsidiary (DI), a distributor of medical diagnostic imaging supplies,
chemicals, equipment, and services to the acute and alternate-care markets in the U.S.
Refer to Note 12, Discontinued Operations, for further discussion.

Basis of Presentation

The accompanying unaudited
consolidated financial statements have been prepared in accordance with the rules and
regulations of the United States Securities and Exchange Commission (the SEC).
Accordingly, certain information and footnote disclosures normally included in financial
statements prepared in accordance with accounting principles generally accepted in the
United States of America (GAAP) have been omitted pursuant to SEC rules and
regulations. The consolidated financial statements reflect, in the opinion of management,
all adjustments necessary to present fairly the financial position and results of
operations for the periods indicated.

The accompanying consolidated
financial statements have been prepared in accordance with GAAP and include the
consolidated accounts of PSS World Medical, Inc. and its wholly owned subsidiaries. All
significant intercompany balances and transactions have been eliminated in consolidation.

The consolidated balance sheet as of
April 2, 2004 has been derived from the Companys audited consolidated
financial statements for the fiscal year ended April 2, 2004. The financial
statements and related notes included in this report should be read in conjunction with
the Companys Annual Report on Form 10-K for the fiscal year ended April 2,
2004.

The Company reports its year-end
financial position, results of operations, and cash flows on the Friday closest to March 31.
Fiscal year 2005 consists of 52 weeks or 253 selling days whereas fiscal year
2004 consisted of 53 weeks or 258 selling days. The Company reports its
quarter-end financial position, results of operations, and cash flows on the Friday
closest to month-end for those quarters in which physical inventories are taken and on
the calendar month-end for those quarters in which physical inventories are not taken.
The following table summarizes the number of selling days in each period presented.

9

For the Three Months Ended

For the Nine Months Ended

December 31,
2004

December 31,
2003

December 31,
2004

December 31,
2003

Number of selling days

61

60

188

192

The results of operations for the
interim periods covered by this report may not be indicative of operating results for the
full fiscal year or any other interim periods.

Non-solicitation
Payments

Certain sales representatives
employed by the Physician and Elder Care Businesses have executed employment agreements
in exchange for a cash payment (Non-solicitation Payments). These employment
agreements include non-solicitation covenants, which state that the sales representative
can neither solicit nor accept business from certain of the Companys customers for
a one-year period subsequent to the date the sales representative ceases employment with
the Company. The costs of these Non-solicitation Payments made to sales representatives
are capitalized and amortized on a straight-line basis over an estimated useful life,
which is the expected employment period of the sales representative plus one year for the
non-solicitation period. If a sales representative terminates employment prior to the end
of the estimated useful life of the agreement, the remaining net book value of the asset
will be amortized over the one-year, non-solicitation period.

During the period the sales
representatives remain employed with the Company, the non-solicitation intangible asset
is evaluated for impairment in accordance with the provisions of Statement of Financial
Accounting Standards (SFAS) No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets (SFAS 144). SFAS 144 requires the
Company to test for impairment annually, or more frequently if events or changes in
circumstances indicate that the carrying amount of the asset may not be recoverable.
Certain factors which may occur and indicate that an impairment exists include, but are
not limited to: (i) a change in a states legal system that would impact any
legal opinion relied upon when assessing enforceability of the non-solicitation
covenants, (ii) a decline in sales generated by a sales representative below the
amount that the non-solicitation was based upon, (iii) death, or (iv) full
retirement by the sales representative. In the event that the carrying value of the
assets are determined to be unrecoverable, the Company would estimate the fair value of
the assets and record an impairment charge for the excess of the carrying value over the
fair value.

Stock Repurchase
Programs

On June 8, 2004, the Companys
Board of Directors approved a stock repurchase program authorizing the Company to
repurchase up to a maximum of 5% of its common stock, or approximately 3.2 million
common shares. These repurchases depend upon market conditions and other factors, and are
to be made in the open market, in privately negotiated transactions, or otherwise. During
the nine months ended December 31, 2004, the Company repurchased approximately 1.0 million
shares of common stock under this program at an average price of $9.91 per common
share. During the nine months ended December 31, 2003, the Company repurchased
approximately 1.0 million shares of common stock under a previously approved stock
repurchase program at an average price of $5.92 per common share.

Reclassification

Certain amounts reported in prior
periods have been reclassified to conform to the current period presentation.

Recent Accounting
Pronouncements

In October 2004, the Emerging
Issues Task Force (EITF) issued its consensus opinion on EITF Issue No. 04-8,
The Effect of Contingently Convertible Debt on Diluted Earnings Per Share (EITF 04-8).
EITF 04-8 requires that contingently convertible debt instruments with embedded
conversion features that are contingent upon market price triggers be included in diluted
earnings per share computations, if dilutive, regardless of whether the contingency has
been met. The provisions of EITF 04-08 are effective for the quarterly period ended
December 31, 2004. Once the Companys stock price reaches $17.10, the dilutive
effect of the Companys $150 million 2.25% convertible senior notes, which have
an embedded conversion feature that is contingent upon a market price trigger, is
required to be reflected in diluted earnings per share by application of the treasury
stock method. By application of the treasury stock method, a range of approximately 0 to
1.5 million shares (at a stock price range of $17.10 (conversion price) to
$20.51(market price trigger)) will be included in the weighted average common shares
outstanding used in computing diluted earnings per share because of the Companys
stated policy to settle the principal amount of the convertible senior notes in cash.
(Refer to Note 2, Earnings Per Share, for a related discussion.) However, the
diluted earnings per share

10

calculation may be further impacted once the Proposed
Statement of Financial Accounting Standards, Earnings Per Share, an amendment of FASB
Statement No. 128 (SFAS 128(R)) becomes effective. SFAS 128(R)
eliminates the provisions of SFAS No. 128, Earnings Per Share that allows an
entity to rebut the presumption that contracts with the option of settling in either cash
or stock will be settled in stock. Therefore, SFAS 128(R) may eliminate the Companys
ability to use a stated policy to settle the principal amount of the Companys
convertible senior notes in cash. Upon the effective date of SFAS 128(R), the number
of diluted weighted average shares outstanding would include approximately 8.8 million
shares and earnings used to calculate diluted earnings per share would increase
approximately $2.7 million (after tax) for the interest expense on the
convertible senior notes. The Company may elect to settle the principal amount of its
convertible senior notes in cash in accordance with the terms of the indenture. If such
election is made, a range of approximately 0 to 1.5 million shares (at a stock price
of $17.10 (conversion price) to $20.51(market price trigger)) will be included in the
weighted average common shares outstanding used in computing diluted earnings per share
in accordance with the provisions of EITF 04-08.

In December 2004, the Financial
Accounting Standards Board issued SFAS No. 123 (Revised 2004), Share-Based Payment (SFAS 123(R)).
This Statement revises SFAS No. 123, Accounting for Stock-Based Compensation (SFAS 123)
by eliminating the option to account for employee stock options under Accounting
Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to
Employees (APB 25) and generally requires companies to recognize the
cost of employee services received in exchange for awards of equity instruments based on
the grant-date fair value of those awards (the fair-value-based method). The
Company is required to adopt SFAS 123(R) on July 1, 2005. As discussed in Note 4,
Stock Based Compensation, the Compensation Committee of the Board of Directors
approved an amendment to all outstanding stock options as of June 7, 2004 that
accelerated the vesting of any unvested stock option as of April 1, 2005. Therefore,
the impact of adopting SFAS 123(R) will be immaterial. The Company will incur an
immaterial amount of compensation expense for stock options granted subsequent to June 7,
2004.

In December 2004, the FASB
issued SFAS No. 153, Exchanges of Nonmonetary Assets, an amendment of APB
Opinion No. 29 (SFAS 153). SFAS 153 addresses the measurement
of exchanges of nonmonetary assets and redefines the scope of transactions that should be
measured based on the fair value of the assets exchanged. SFAS 153 is effective for
nonmonetary asset exchanges occurring beginning in our second quarter of fiscal 2006. The
adoption of SFAS 153 will not have a material effect on the Companys
consolidated financial position, results of operations, or cash flows.

2. EARNINGS PER SHARE

Basic and diluted earnings per share
are presented in accordance with SFAS No. 128, Earnings Per Share. Basic
earnings per share is computed by dividing net income by the weighted average number of
common shares outstanding during the period. Diluted earnings per share is computed by
dividing net income by the weighted average number of common and common equivalent shares
outstanding during the year adjusted for the potential dilutive effect of stock options
using the treasury stock method and the conversion of the $150 million 2.25%
convertible senior notes if the conditions that would permit conversion have been
satisfied. Common equivalent shares are excluded from the computation in periods in which
they have an antidilutive effect.

The following table sets forth basic
and diluted earnings per share computational data for the three and nine months ended
December 31, 2004 and 2003 (share amounts in thousands, except per share data):

11

For the Three Months Ended

For the Nine Months Ended

December 31,
2004

December 31,
2003

December 31,
2004

December 31,
2003

Income from continuing operations

$

14,436

$

8,327

$

29,132

$

21,272

Income (loss) on disposal of

discontinued operations (net of

benefit for income taxes of $807,

$--, $1,849, and $206)

1,295

--

(412

)

(324

)

Net income

$

15,731

$

8,327

$

28,720

$

20,948

Earnings per share - Basic:

Income from continuing operations

$

0.22

$

0.12

$

0.45

$

0.32

Income (loss) on disposal of

discontinued operations

0.02

--

(0.01

)

(0.01

)

Net income

$

0.24

$

0.12

$

0.44

$

0.31

Earnings per share - Diluted:(a):

Income from continuing operations

$

0.22

$

0.12

$

0.44

$

0.31

Income (loss) on disposal of

discontinued operations

0.02

--

--

--

Net income

$

0.24

$

0.12

$

0.44

$

0.31

Weighted average shares outstanding:

Common shares

64,305

67,123

64,505

67,245

Assumed exercise of stock options (b)

1,015

1,140

1,003

730

Assumed vesting of restricted stock .

46

--

25

25

Diluted shares outstanding

65,366

68,263

65,533

68,000

(a)

The
effect of the assumed conversion of the $150 million convertible senior
notes, which were issued in March 2004, has been excluded from
diluted earnings per share for the three and nine months ended
December 31, 2004, because none of the conditions that would
permit conversion were satisfied during the period and the Companys
stock price did not reach the applicable conversion price of $17.10. The
Companys stated policy is to satisfy the Companys obligation
upon a conversion of the notes first, in cash, in an amount equal to the
principal amount of the notes converted and second, in shares of the
Companys common stock, to satisfy the remainder, if any, of the
Companys conversion obligation. Once the Companys stock price
reaches $17.10, the dilutive effect of the convertible notes will be
reflected in diluted earnings per share by application of the treasury
stock method. By application of the treasury stock method, a range of
approximately 0 to 1.5 million shares (at a stock price range of
$17.10 (conversion price) to $20.51(market price trigger)) will be
included in the weighted average common shares outstanding used in
computing diluted earnings per share because of the Companys stated
policy to settle the principal amount of the convertible senior notes in
cash.

(b)

The
following table summarizes the options to purchase common stock that were
outstanding and not included in the computation of diluted earnings per
share for each of the periods presented because the options exercise
prices exceeded the fair market value of the Companys common stock.

For the Three Months Ended

For the Nine Months Ended

(shares in millions)

December 31,
2004

December 31,
2003

December 31
2004

December 31,
2003

Out-of-the-money options

outstanding

1.8

1.9

1.8

4.1

12

3. COMPREHENSIVE INCOME

Comprehensive income represents all
changes in equity of an enterprise that result from recognized transactions and other
economic events during the period. Other comprehensive income refers to revenues,
expenses, gains, and losses that under GAAP are included in comprehensive income but
excluded from net income, such as the unrealized gain or loss on the interest rate swap.
The following table details the components of comprehensive income for the periods
presented.

For the Three Months Ended

For the Nine Months Ended

December 31,
2004

December 31,
2003

December 31,
2004

December 31,
2003

Net income

$

15,731

$

8,327

$

28,720

$

20,948

Other comprehensive income, net of tax:

Unrealized gain on interest rate swap

71

9

176

25

Comprehensive income

$

15,802

$

8,336

$

28,896

$

20,973

4. STOCK-BASED
COMPENSATION

The Company applies the
intrinsic-value recognition and measurement principles of APB 25, and related
interpretations, in accounting for stock-based compensation plans. It has been the Companys
policy to only issue stock options with an exercise price greater than or equal to the
current market price of the underlying stock. Accordingly, under APB 25, the Company
does not record compensation expense at the time an employee stock option is issued. The
Company has adopted the disclosure-only provisions of SFAS 123. The following table
illustrates the effect on net income and earnings per share if the fair-value-based
method of accounting prescribed by SFAS 123 had been applied to all outstanding and
unvested awards in each period.

For the Three Months Ended

For the Nine Months Ended

December 31,
2004

December 31,
2003

December 31,
2004

December 31,
2003

Net income, as reported

$

15,731

$

8,327

$

28,720

$

20,948

Stock-based employee compensation

expense included in reported net

income, net of related tax effects

186

--

264

--

Total stock-based employee

compensation expense determined

under fair value based method for

all awards, net of related tax

effects

(845

)

(759

)

(2,174

)

(2,026

)

Pro forma net income

$

15,072

$

7,568

$

26,810

$

18,922

Earnings per share - Basic:

As reported

$

0.24

$

0.12

$

0.44

$

0.31

Pro forma

$

0.23

$

0.11

$

0.42

$

0.28

Earnings per share - Diluted:

As reported

$

0.24

$

0.12

$

0.44

$

0.31

Pro forma

$

0.23

$

0.11

$

0.41

$

0.28

13

During June 2004, the
Compensation Committee of the Board of Directors approved an amendment to all outstanding
stock options granted to employees. This amendment accelerated the vesting of all
unvested stock options outstanding as of April 1, 2005, which is prior to the effective date of
SFAS 123(R). The Company took this action to avoid compensation expense in future periods in light of SFAS 123(R),
which is effective for the Companys second quarter of fiscal year 2006. Under SFAS 123(R),
the Company estimated that a compensation
charge of approximately $2.8 million, net of tax, would have been recorded in future
periods if the vesting of the stock options was not accelerated. As a result of the
acceleration, the Company recognized a contingent compensation expense equal to the
difference between the fair market value of the common stock on the modification date and
the option exercise price for the estimated number of options that, absent the
acceleration, would have expired unexercisable as a result of the termination of the
holders employment prior to the original vesting dates of the options. The maximum
stock-based compensation expense would be approximately $3.4 million if all holders
benefited from this amendment with respect to outstanding options. The Company has
estimated and recognized compensation expense in the accompanying statements of operations of approximately $0.1 million based on
its historical option forfeiture rate. This liability will be adjusted in future periods
based on actual experience and changes in management assumptions.

5. GOODWILL

The change in the carrying value of
goodwill during the nine months ended December 31, 2004 is as follows:

PhysicianBusiness

Elder CareBusiness

Total

Balance as of April 2, 2004

$

9,788

$

60,121

$

69,909

Purchase business combination

--

7,907

7,907

Acquisition earn-out payment

--

1,685

1,685

Purchase price allocation adjustments

--

41

41

Balance as of December 31, 2004

$

9,788

$

69,754

$

79,542

The terms of one purchase
agreement provided for additional consideration to be paid (earn-out payment) if the
acquired entitys earnings before interest expense, provision for income taxes,
depreciation and amortization, as defined, exceeded a targeted level. During the nine
months ended December 31, 2004, the Elder Care Business paid $1,685 under this
agreement. In addition, approximately $5,600 of potential earn-out payments exist at
December 31, 2004 if minimum revenue thresholds are met in future periods and final
working capital balances as of the closing date of the transaction are validated and
settled.

14

6. INTANGIBLES

The following table summarizes the
gross carrying amount and accumulated amortization for existing intangible assets subject
to amortization by business segment and major asset class.

As of

December 31, 2004

April 2, 2004

Gross
CarryingAmount

AccumulatedAmortization

Net

Gross
CarryingAmount

AccumulatedAmortization

Net

Non-solicitation Payments:

Physician Business

$

6,443

(191

)

$

6,252

$

327

$

(10

)

$

317

Elder Care Business

521

(18

)

503

--

--

--

6,964

(209

)

6,755

327

(10

)

317

Non-competition Agreements:

Physician Business

2,630

(1,893

)

737

2,242

(1,643

)

599

Elder Care Business

3,255

(2,216

)

1,039

3,255

(1,440

)

1,815

Corporate Shared Services

417

(278

)

139

417

(174

)

243

6,302

(4,387

)

1,915

5,914

(3,257

)

2,657

Signing Bonuses:

Physician Business

2,069

(1,048

)

1,021

2,076

(729

)

1,347

Elder Care Business

623

(103

)

520

50

(24

)

26

2,692

(1,151

)

1,541

2,126

(753

)

1,373

Other Intangibles:

Physician Business

2,463

(1,817

)

646

2,463

(1,674

)

789

Elder Care Business

13,329

(1,767

)

11,562

6,929

(773

)

6,156

15,792

(3,584

)

12,208

9,392

(2,447

)

6,945

Total

$

31,750

$

(9,331

)

$

22,419

$

17,759

$

(6,467

)

$

11,292

Total amortization expense for
intangible assets for the three months ended December 31, 2004 and 2003 was $1,278
and $782, respectively. Total amortization expense for intangible assets for the nine
months ended December 31, 2004 and 2003 was $3,049 and $1,882, respectively. The
estimated amortization expense for the next five fiscal years is as follows:

Fiscal Year:

2005 (remaining 3 months)

$

1,272

2006

4,327

2007

3,532

2008

2,988

2009

2,676

Thereafter

7,624

Total

$

22,419

15

The remaining weighted-average
amortization period, in total and by major asset class, is as follows:

(in years)

December 31,
2004

April 2,
2004

Non-solicitation Payments

10.7

11.0

Non-competition Agreements

5.2

5.2

Signing Bonuses

3.9

4.5

Other Intangibles

8.0

8.6

Total weighted-average period

7.7

7.0

Future minimum payments
required under non-competition agreements at December 31, 2004 are as follows:

Fiscal Year:

2005 (remaining 3 months)

$

166

2006

36

2007

35

2008

28

2009

28

Thereafter

58

Total

$

351

7. DEBT

Debt consists of the following:

December 31,
2004

April 2,
2004

2.25% convertible senior notes

$

150,000

$

150,000

Revolving line of credit

25,000

35,000

$

175,000

$

185,000

2.25% Convertible Senior
Notes

On March 8, 2004, the Company
sold $150 million principal amount of 2.25% convertible senior notes, which mature
on March 15, 2024. Interest on the notes is payable semiannually in arrears on March 15
and September 15 of each year. Contingent interest is also payable during any
six-month interest period, beginning with the six-month interest period commencing on
March 15, 2009, if the average trading price of the notes for the five trading days
ending on the second trading day immediately preceding such six-month interest period
equals or exceeds 120% of the principal amount of the notes. The amount of contingent
interest payable per note in respect of any six-month interest period is equal to 0.25%
of the average trading price of a note for the trading period referenced above.

The notes may be converted into
shares of the Companys common stock under the following circumstances: (i) prior
to March 15, 2019, during any calendar quarter that the closing sale price of the
Companys common stock for at least 20 of the 30 consecutive trading days ending the
day prior to such quarter is greater than 120% of the applicable conversion price of
$17.10 per share; (ii) if on any date after March 15, 2019, the closing
sale price of the Companys common stock is greater than 120% of the then applicable
conversion price; (iii) during the five consecutive business day period following
any five consecutive trading day period in which the trading price for a note for each
day of that trading period is less than 98% of the closing sale price of the Companys
common stock on such corresponding trading day multiplied by the applicable conversion
rate, provided that if the price of the Companys common stock issuable upon
conversion is between 100% and 120%

16

of the applicable conversion price, then holders will
be entitled to receive upon conversion only the value of the principal amount of the
notes converted plus accrued and unpaid interest, including contingent interest, if any;
(iv) if the Company has called the notes for redemption; (v) during any period
in which the Companys long-term issuer rating assigned by Moodys Investor
Services (Moodys) is at or below Caa1 or the corporate credit rating
assigned by Standard & Poors Ratings Services, a division of McGraw Hill
Companies, Inc. and its successors (S&P), is at or below B-, or if the
Company is no longer rated by at least one of S&P or Moodys; or (vi) upon
the occurrence of specified corporate transactions described in the indenture governing
the notes. The initial conversion rate is 58.4949 shares of common stock per each $1 (in
thousands) principal amount of notes and is equivalent to an initial conversion price of
$17.10 per share. The conversion rate is subject to adjustment if certain events occur,
such as stock dividends or other distributions of cash, securities, indebtedness or
assets; stock splits and combinations; issuances of rights or
warrants; tender offers; or repurchases. Upon conversion, the Company has the right to
deliver, in lieu of common stock, cash or a combination of cash and common stock. The
Companys stated policy is to satisfy the Companys obligation upon a
conversion of the notes first, in cash, in an amount equal to the principal amount of the
notes converted and second, in shares of the Companys common stock, to satisfy the
remainder, if any, of the Companys conversion obligation. Once the Companys
stock price reaches $17.10, the dilutive effect of the convertible notes may be reflected
in diluted earnings per share by application of the treasury stock method. By application
of the treasury stock method, a range of approximately 0 to 1.5 million shares (at a
stock price range of $17.10 (conversion price) to $20.51(market price trigger)) will be
included in the weighted average common shares outstanding used in computing diluted
earnings per share because of the Companys stated policy to settle the principal
amount of the convertible senior notes in cash.

Revolving Line of Credit

The Company maintains an asset-based
revolving line of credit by and among the Company, as borrower thereunder (the Borrower),
the subsidiaries of the Company, the lenders from time to time party thereto (the Lenders),
and Bank of America, N.A. (the Bank), as agent for the Lenders (the Credit
Agreement), which permits maximum borrowings of up to $200 million and matures
on March 31, 2008. Availability of borrowings depends upon a borrowing base
calculation consisting of accounts receivable and inventory, subject to satisfaction of
certain eligibility requirements. Borrowings under the revolving line of credit bear
interest at the Banks prime rate plus an applicable margin based on the Companys
funded debt to earnings before interest, taxes, depreciation, and amortization (the Leverage
Ratio), or at LIBOR plus an applicable margin based on the Leverage Ratio.
Additionally, the Credit Agreement bears interest at a fixed rate of 0.375% for any
unused portion of the facility. Under the Credit Agreement, the Company and its
subsidiaries are subject to certain covenants, including but not limited to, limitations
on (i) paying dividends and repurchasing stock, (ii) selling or transferring
assets, (iii) making certain investments including acquisitions, (iv) incurring
additional indebtedness and liens, and (v) annual capital expenditures. Borrowings
under the revolving line of credit are anticipated to (i) fund future requirements
for working capital, capital expenditures, and acquisitions and (ii) issue letters
of credit. Although the Credit Agreement expires on March 31, 2008, the revolving
line of credit is classified as a current liability in accordance with EITF No. 95-22,
Balance Sheet Classification of Borrowings Outstanding under Revolving Credit
Agreements That Include both a Subjective Acceleration Clause and a Lock-Box Arrangement.
The Company is not obligated to repay or refinance amounts outstanding under the
revolving line of credit until fiscal year 2008.

As of December 31, 2004, the
Company had sufficient assets based on eligible accounts receivable and inventory to
borrow up to approximately $191.9 million under the revolving line of credit and had
outstanding borrowings of $25.0 million. The average daily interest rate, excluding
debt issuance costs and unused line fees, for the three months ended December 31,
2004 and 2003, was 4.16% and 3.70%, respectively. The average daily interest rate,
excluding debt issuance costs and unused line fees, for the nine months ended December 31, 2004
and 2003, was 3.94%.

From time-to-time, the Company has
amended the Credit Agreement to meet specific business objectives and requirements. The
Credit Agreement originally dated May 20, 2003 has been amended as follows:

The First Amendment dated June 24,
2003 primarily finalized the syndication of the Credit Agreement to the Lenders.

The
Second Amendment dated December 16, 2003 primarily increased the maximum borrowings
under the Credit Agreement from $150 million to $200 million. In addition, this
amendment redefined the applicable margin applied to the Banks prime rate or LIBOR.

The
Third Amendment dated March 1, 2004 obtained the Lenders approval to issue
additional indebtedness in the form of the convertible senior notes and to repurchase up
to $42.0 million of the Companys common stock, including any repurchases made
subsequent to May 20, 2003. In addition, this amendment locked the interest rate on
the Credit Agreement at the Banks prime rate or at LIBOR plus 2.00% for the period
of one year, concurrent with the Companys fiscal year 2005.

17

The
Fourth Amendment dated June 1, 2004 obtained the Lenders approval to increase
the aggregate amount of permitted stock repurchases from $42.0 million to
$55.0 million, which includes any stock repurchases made subsequent to May 20,
2003.

The
Fifth Amendment dated October 1, 2004 obtained the Lenders approval to
(i) extend the term of the agreement two years to March 31, 2008,
(ii) increase the aggregate amount of permitted stock repurchases from
$55.0 million to $80.0 million, which includes any stock repurchases made
subsequent to May 20, 2003, (iii) increase the aggregate amount of permitted
acquisitions from $50.0 million to $75.0 million,
which includes any acquisitions made subsequent to May 20, 2003, (iv) sets the
applicable margin level for Base Rate and LIBOR loans to -0.25% and 1.75%, respectively,
for the period beginning October 1, 2004 and ending March 26, 2005.

During the three months ended June 30,
2003, the Company entered into an interest rate swap agreement to hedge the variable
interest rate of its revolving line of credit. Under the terms of the interest rate swap
agreement, the Company makes payments based on the fixed rate and will receive interest
payments based on 1-month LIBOR. The changes in market value of this financial instrument
are highly correlated with changes in market value of the hedged item both at inception
and over the life of the agreement. Amounts received or paid under the interest rate swap
agreement are recorded as reductions or additions to interest expense. In accordance with
SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, SFAS
No. 138, Accounting for Certain Derivative Instruments and Certain Hedging
Activities, an amendment of FASB Statement No. 133, and SFAS No. 149,Amendment
of Statement 133 on Derivative Instruments and Hedging Activities, the Companys
interest rate swap agreement has been designated as a cash flow hedge with changes in
fair value recognized in accumulated other comprehensive income (loss) in the
accompanying consolidated balance sheets.

On July 19, 2004, the Company
elected to reduce the notional amount of the interest rate swap from $35 million to
$25 million. Accordingly, during the nine months ended December 31, 2004, the
Company reclassified a gain of $61 from accumulated other comprehensive income to
interest expense related to the portion of the swap that was terminated.

As of December 31, 2004, the
swap carries a notional principal amount of $25 million and effectively fixes the
interest rate on a portion of the revolving line of credit to 2.195%, prior to applying
the Leverage Ratio margin discussed above. The swap agreement expires on March 28,
2006 and settles monthly until expiration. At December 31, 2004 and April 2,
2004, the Company recorded an unrealized gain (loss), net of related tax effects, of $176
and ($40), respectively, for the estimated fair value of the swap agreement in
accumulated other comprehensive income (loss) in the accompanying consolidated balance
sheets.

8. INCOME TAXES

During fiscal year 2002, the Company
sold its International Business, which generated a capital loss carryforward. At the time
of sale, management believed it was more likely than not that the Company would be unable
to use the capital loss before its expiration in fiscal year 2007 and, accordingly, a
valuation allowance was recorded. Based on recent Tax Court rulings, the Company filed a
refund claim with the Internal Revenue Service (IRS) during the three months
ended December 31, 2003, to report an ordinary worthless stock deduction on the sale
of the International Business. The refund claim reflected a reclassification of the
nondeductible capital loss to a tax-deductible ordinary loss. The worthless stock
deduction claim was combined with the formal protest to the results of the audit of the
federal income tax returns for the fiscal years ended March 31, 2000 and March 30,
2001 and was submitted to the Appeals Office of the IRS. During the three months ended
December 31, 2004, the Company and the Appeals Office of the IRS reached a
settlement. This settlement, which is subject to final review and approval by the
Congressional Joint Committee on Taxation (Joint Committee), resulted in a
one-time reduction to the provision for income taxes for the three and nine months ended
December 31, 2004 of approximately $5.6 million, or approximately $0.08 diluted
earnings per share. Management believes that the Joint Committee will uphold and approve
the agreed-upon settlement with the Appeals Office of the IRS.

During the three months ended
December 31, 2004, the IRS completed fieldwork on the audit of the federal income
tax returns for the fiscal years ended March 29, 2002 and March 28, 2003. The
Company plans to appeal certain findings, which primarily related to timing of tax
deductions, with the Appeals Office of the IRS. Management does not anticipate the
results of the audit to have a material impact on the financial condition or consolidated
results of operations of the Company.

9. SEGMENT INFORMATION

The Companys reportable
segments are strategic businesses that offer different products to different segments of
the healthcare industry, and are the basis upon which management regularly evaluates the
Company. These segments are managed separately because of different customers and
products. See Note 1, Background and Basis of Presentation, for
descriptive information about the Companys operating segments. The Company
primarily evaluates the operating performance of its segments based on net sales and
income from operations. The following table presents financial information about the
Companys business segments:

18

For the Three Months Ended

For the Nine Months Ended

December 31,
2004

December 31,
2003

December 31,
2004

December 31,
2003

NET SALES:

Physician Business

$

243,439

$

231,343

$

697,514

$

653,144

Elder Care Business

134,403

112,318

374,955

345,357

Total net sales

$

377,842

$

343,661

$

1,072,469

$

998,501

INCOME FROM OPERATIONS:

Physician Business

$

17,192

$

12,639

$

43,321

$

32,047

Elder Care Business

5,796

6,459

16,241

15,766

Corporate Shared Services

(7,730

)

(5,036

)

(16,533

)

(13,255

)

Total income from operations

$

15,258

$

14,062

$

43,029

$

34,558

DEPRECIATION:

Physician Business

$

2,254

$

2,367

$

6,844

$

7,071

Elder Care Business

432

396

1,199

1,146

Corporate Shared Services

1,041

438

2,593

1,294

Total depreciation

$

3,727

$

3,201

$

10,636

$

9,511

AMORTIZATION OF INTANGIBLE ASSETS:

Physician Business

$

402

$

295

$

1,027

$

894

Elder Care Business

841

452

1,918

884

Corporate Shared Services

35

35

104

104

Total amortization of intangible

assets

$

1,278

$

782

$

3,049

$

1,882

PROVISION FOR DOUBTFUL ACCOUNTS:

Physician Business

$

347

$

347

$

1,338

$

1,060

Elder Care Business

1,266

(3

)

3,288

2,634

Total provision for doubtful

accounts

$

1,613

$

344

$

4,626

$

3,694

INTEREST EXPENSE:

Physician Business

$

800

$

1,070

$

2,700

$

2,962

Elder Care Business

1,775

1,500

4,875

3,994

Corporate Shared Services

(838

)

(1,134

)

(2,079

)

(3,061

)

Total interest expense

$

1,737

$

1,436

$

5,496

$

3,895

19

For the Three Months Ended

For the Nine Months Ended

December 31,
2004

December 31,
2003

December 31,
2004

December 31,
2003

BENEFIT (PROVISION) FOR INCOME TAXES:

Physician Business

$

(5,765

)

$

(4,257

)

$

(15,885

)

$

(11,330

)

Elder Care Business

(1,446

)

(1,814

)

(4,530

)

(4,498

)

Corporate Shared Services

7,736

1,352

10,829

2,619

Total benefit (provision) for

income taxes

$

525

$

(4,719

)

$

(9,586

)

$

(13,209

)

CAPITAL EXPENDITURES:

Physician Business

$

595

$

2,104

$

1,466

$

4,857

Elder Care Business

1,142

613

2,596

2,981

Corporate Shared Services

5,191

1,369

13,601

2,548

Total capital expenditures

$

6,928

$

4,086

$

17,663

$

10,386

As of

December 31,
2004

April 2,
2004

ASSETS:

Physician Business

$

309,338

$

265,594

Elder Care Business

247,776

202,825

Corporate Shared Services

84,233

118,427

Total assets

$

641,347

$

586,846

10. PURCHASE
BUSINESS COMBINATIONS

The following acquisitions were
accounted for under the purchase method of accounting in accordance with SFAS No. 141,
Business Acquisitions (SFAS 141);accordingly, the
operations of the acquired companies have been included in the Companys results of
operations subsequent to the date of acquisition. The assets acquired and liabilities
assumed were recorded at their estimated fair values at the date of the acquisition as
determined by management based on information currently available. Supplemental unaudited
pro forma information, assuming these acquisitions were made at the beginning of the
immediate preceding period, is not presented as the results would not differ materially
from the amounts reported in the accompanying consolidated statements of operations.

Fiscal Year 2005

On October 7, 2004, the Elder
Care Business acquired certain assets and assumed certain liabilities of a long-term care
medical supply distributor. The maximum aggregate purchase price is approximately
$27,012, subject to certain adjustments as set forth in the Purchase Agreement, of which
$19,751 was paid in cash at the closing. Pursuant to the terms of the Purchase Agreement,
the remaining purchase price of up to $5,600 will be paid to the Seller by April 30,
2005 if minimum revenue thresholds are met in future periods and final working capital
balances as of the closing date are validated and settled. The following table summarizes
the estimated fair values of the assets acquired and liabilities assumed at the date of
acquisition.

20

Cash

$

355

Accounts receivable

7,996

Inventory

3,320

Other current assets

1,772

Goodwill

7,907

Intangibles

7,544

Other noncurrent assets

35

Total assets acquired

28,929

Current liabilities

8,032

Net assets acquired

$

20,897

Goodwill of $7,907 was
assigned to the Elder Care Business and is expected to be deductible for tax purposes. Of
the $7,544 of acquired intangible assets, $6,400, $623, and $521 was assigned to customer
relationships, signing bonuses, and non-solicitation agreements, respectively. The
acquired intangible assets have a weighted-average useful life of approximately 6.4 years
as of the date of acquisition.

Fiscal Year 2004

During the nine months ended December 31,
2003, the Company acquired the stock of a service company that provides ancillary billing
services to the long-term care industry and a long-term care medical supply distributor.
The Company also acquired certain assets and assumed certain liabilities of a billing
service company. The aggregate purchase price, net of cash acquired, for these acquired
companies was $21,963. The Company obtained independent valuations of certain intangible
assets and the final allocation of the purchase price was finalized during the three
months ended December 31, 2004. The following table summarizes the estimated fair
values of the assets acquired and liabilities assumed at the date of acquisition.

Cash

$

135

Accounts receivable

5,668

Inventory

1,739

Other current assets

861

Goodwill

10,506

Intangibles

6,700

Other noncurrent assets

291

Total assets acquired

25,900

Current liabilities

3,937

Net assets acquired

$

21,963

Goodwill of $10,506 was assigned to
the Elder Care Business and is expected to be nondeductible for tax purposes. Of the
$6,700 of acquired intangible assets, $1,200 and $5,500 was assigned to non-competition
agreements and customer relationships, respectively. The acquired intangible assets have
a weighted-average useful life of approximately 6.1 years as of the date of
acquisition.

11. COMMITMENTS AND
CONTINGENCIES

Litigation

The Company, through its Elder Care
Business, its Physician Business, and/or predecessor companies, has been named as one of
many defendants in latex glove product liability claims in various federal and state
courts. The defendants are primarily distributors of certain brands of latex gloves. The
Companys insurers have settled all of the outstanding cases, without expense to the Company.
Defense costs were allocated by agreement between a consortium of insurers on a pro rata basis for
each case depending upon policy years and alleged years of exposure. All of the insurance
carriers defended the cases subject to a reservation of rights.

21

The Company and certain of its
current and former officers and directors are named as defendants in a securities class
action lawsuit entitled Jack Hirsch v. PSS World Medical, Inc., et al., Civil
Action No. 3:98-CV 502-J-32TEM. The action, which was filed in May 1998, is
pending in the United States District Court for the Middle District of Florida,
Jacksonville Division. The plaintiff seeks indeterminate damages, including costs and
expenses. The plaintiff initially alleged, for himself and for a purported class of
similarly situated stockholders who purchased the Companys stock between December 23,
1997 and May 8, 1998 that the defendants engaged in violations of certain provisions of the Securities Exchange Act, and
Rule 10b-5 promulgated thereunder. The allegations reference a decline in the Companys
stock price following an announcement by the Company in May 1998 regarding the Gulf
South Medical Supply, Inc. merger, which resulted in earnings below analysts expectations.
In December 2002, the Court granted the Companys motion to dismiss the
plaintiffs second amended complaint with prejudice with respect to the Section
10(b) claims. The plaintiffs filed their third amended complaint in January 2003
alleging claims under Sections 14(a) and 20(a) of the Exchange Act on behalf of a
putative class of all persons who were shareholders of the Company as of March 26,
1998. In May 2003, the Court denied the defendants motion to dismiss. By order
dated February 18, 2004, the Court granted plaintiffs motion for class
certification. Court ordered mediation occurred on June 10, 2004, during which the
parties were not able to resolve their dispute. The case is set for trial in October 2005.
The Company intends to vigorously defend the proceedings; however, there can be no
assurance that this litigation will be ultimately resolved on terms that are favorable to
the Company. An estimate of the potential loss or range of loss cannot be determined.

The Company was named along with
certain present and former directors and officers as a defendant in ten related class
action complaints, the first of which was filed on July 13, 2001, in the United
States District Court for the Middle District of Florida. Those ten actions were
consolidated into a single action under the caption In Re PSS World Medical Inc.
Securities Litigation. The amended complaint was filed as a purported class action
on behalf of persons who purchased or acquired PSS World Medical, Inc. common stock at
various times during the period between October 26, 1999 and December 31, 2000
and alleged, among other things, violations of Sections 10(b) and 20(a) of the
Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder. The plaintiffs
alleged that the Company issued false and misleading statements and failed to disclose
material facts concerning, among other things, the Companys financial condition and
that because of the issuance of false and misleading statements and/or failure to
disclose material facts, the price of PSS World Medical, Inc. common stock was
artificially inflated during the class period. The Court granted the plaintiffs
motion for class certification in November 2002. The parties signed a settlement
agreement pursuant to which the Company has agreed to pay $6.75 million for the
benefit of the class members, of which $6.5 million was covered by the Companys
insurance policy. The final settlement agreement was filed with the court on June 9, 2004 and
became effective July 9, 2004.

The Company has been named as a
defendant in a suit brought by three former and certain present employees of the Company,
entitled Angione, et al. v. PSS World Medical, Inc., which was filed on or about
June 4, 2002 in the U.S. District Court for the Central District of California,
Santa Ana Division. The court approved the transfer of venue, and the case is now pending
in the United States Court for the Middle District of Florida, Jacksonville Division. The
plaintiffs allege that the Company wrongfully classified its purchasers, operations
leader trainees, and accounts receivable representatives as exempt from the overtime
requirements imposed by the Fair Labor Standards Act and the California Wage Orders, and
they seek to recover back pay, interest, costs of suit, declaratory and injunctive
relief, and applicable statutory penalties. On February 21, 2003, the court
conditionally allowed the case to proceed as a collective action under the Fair Labor
Standards Act. An additional 59 plaintiffs opted into the proceeding, bringing the total
number of plaintiffs to 62. Two of the three original named plaintiffs also brought, but
subsequently have settled, individual claims for gender discrimination and retaliation
under Title VII of the Civil Rights Act of 1964 and the Equal Pay Act of 1963. As a
result of mediation in March 2004, the parties agreed on a framework for mediation
or arbitration in October 2004 on the issue of the plaintiffs attorneys
fees. The attorneys fee issue was resolved and the parties entered into
negotiations for resolution of the plaintiffsoutstanding wage claims. The parties
were able to reach agreement on the amount of wages to be paid to the plaintiffs. On
November 5, 2004, the Court approved the $2.9 million settlement payment, which
has been paid by the Company.

On February 8, 2005, the Company
settled a lawsuit pursuant to which the opposing parties agreed to pay the Company $2.6
million to resolve all claims and counterclaims. The settlement agreement received court
approval. Accordingly, during the three months ended April 1, 2005, the Company will
record a $2.6 million gain, which will be offset by approximately $0.5 million of legal
and professional fees and expenses incurred during this same period. The Company previously recorded
approximately $1.7 million in legal and professional fees and expenses from the inception of the case
in July 2003 through December 31, 2004.

22

The Company is also a party to
various other legal and administrative proceedings and claims arising in the normal
course of business. While any litigation contains an element of uncertainty, the Company,
after consultation with outside legal counsel, believes that the outcome of such other
proceedings or claims which are pending or known to be threatened will not have a
material adverse effect on the Companys consolidated financial position, liquidity,
or results of operations.

The Company has various insurance
policies, including product liability insurance, covering risks and in amounts it
considers adequate. In many cases in which the Company has been sued in connection with
products manufactured by others, the Company is provided indemnification by the
manufacturer. There can be no assurance that the insurance coverage maintained by the
Company is sufficient or will be available in adequate amounts or at a reasonable cost,
or that indemnification agreements will provide adequate protection for the Company.

Commitments and Other
Contingencies

The Company has employment
agreements with certain executive officers which provide that in the event of their
termination or resignation, under certain conditions, the Company may be required to pay
severance to the executive officers in amounts ranging from one-fourth to two times their
base salary and target annual bonus. In the event that a termination or resignation
follows or is in connection with a change in control, the Company may be required to pay
severance to the executive officers in amounts ranging from three-fourths to three times
their base salary and target annual bonus. The Company may also be required to continue
welfare benefit plan coverage for the executive officers following a termination or
resignation for a period ranging from three months to three years.

If the Physician Business or the
Elder Care Business were to terminate a contract with a private label vendor for any
reason, the Company may be required to purchase the remaining inventory of private label
products from the vendor, provided that, in no event would the Company be required to
purchase quantities of such products which exceed the aggregate amount of such products
ordered by the Company in the ninety day period immediately preceding the date of
termination. As of December 31, 2004, the Company has not terminated any contracts
with a private label vendor that had a material impact to the Companys results of
operations and financial condition.

12. DISCONTINUED
OPERATIONS

On September 26, 2002, the
Companys Board of Directors adopted a plan to dispose of the Imaging Business,
reflecting a strategic decision by management to focus the Companys efforts on its
Physician and Elder Care Businesses, which offer attractive opportunities for growth and
profitability.

On November 18, 2002, the
Company completed the sale of DI to Imaging Acquisition Corporation (the Buyer),
a wholly owned subsidiary of Platinum Equity, LLC, a private equity firm (Platinum).
The sale was completed pursuant to a Stock Purchase Agreement, dated as of October 28,
2002, among the Company, the Buyer, and Platinum, as amended on November 18, 2002
(the Stock Purchase Agreement). Under the Stock Purchase Agreement, the
purchase price was $45,000 less (i) an adjustment for any change in net asset value
from the initial net asset value target date and (ii) an adjustment for any change
in the net cash from the initial net cash target date (the Purchase Price).
In connection with the closing of the transaction, the Company and the Buyer entered into
a transitional services agreement, pursuant to which the Company provided certain
reimbursable services to the Buyer for a period of one year. This agreement terminated
during fiscal year 2004. The costs incurred related to providing services under the
transition services agreement were included in general and administrative expenses and
the reimbursement for these expenses were included in other income in the accompanying
statements of operations. During the three and nine months ended December 31, 2003,
the Company recognized approximately $200 and $2,950, respectively, of other income
related to the transition services agreement.

The results of operations of the
Imaging Business and the estimated loss on disposal have been classified as discontinued
operations in accordance with SFAS 144. The estimated loss on disposal, which
was subject to change based on the final Purchase Price adjustments, was finalized during
the three months ended June 30, 2004. The accompanying financial statements have
been restated to conform to discontinued operations treatment for all historical periods
presented.

23

On March 14, 2003, the Company
received a letter from the Buyer claiming a purchase price adjustment of $32,257. The
claimed purchase price adjustment was based on an accounting of the net asset statement
as of the closing date, which was delivered to the Buyer in January 2003. Pursuant
to the terms of the Stock Purchase Agreement, the matter was referred to an independent
accounting firm of national reputation for arbitration. Subsequent to March 14,
2003, the Buyer provided an adjusted claim to the arbitrator claiming a purchase price
adjustment of $28,222. Of this amount, the arbitrator ruled in favor of the Buyer for a
purchase price adjustment of $1,821. During the settlement process, management estimated
the net asset adjustment based on available information and revised its estimate on a
quarterly basis, if needed. Managements estimated net asset adjustment of
approximately $2,000 was recorded in prior periods. The pretax loss on disposal of
discontinued operations recorded during the nine months ended December 31, 2004
represented (i) a true-up of managements estimated net asset adjustment to the
actual net asset adjustment as indicated in the arbitrators final ruling of $1,821,
(ii) interest of $458, and (iii) legal and professional fees of $471, offset by
(iv) a reversal of the remaining accrued loss on disposal of $489 in order to
true-up managements estimated legal and professional fees based on actual payments
made.

The gain (loss) on disposal of
discontinued operations for the three and nine months ended December 31, 2004 and
2003 is as follows:

For the Three Months Ended

For the Nine Months Ended

December 31,
2004

December 31,
2003

December 31,
2004

December 31,
2003

Pretax gain (loss) on disposal of

discontinued operations

$

489

$

--

$

(2,261

)

$

(530

)

Benefit for income taxes

806

--

1,849

206

Gain (loss) on disposal of discontinued

operations

$

1,295

$

--

$

(412

)

$

(324

)

The cash proceeds received from the
Buyer during fiscal year 2003 were reduced by approximately $10,219 for transaction and
settlement costs. A cash payment of approximately $4,279 was made to the Buyer during the
three months ended October 1, 2004.

13. SUBSEQUENT EVENT

PSS World Medical, Inc., and its
wholly owned subsidiary, World Med Shared Services, Inc. (collectively the Company),
entered into a Sourcing Services Agreement, dated as of January 19, 2005 (the Agreement),
with Tiger Specialty Sourcing Limited, Tiger Shanghai Specialty Sourcing Co. Ltd., Mark
Engle, Elaine Fong, and Dr. Gao Zhan (collectively Tiger Medical). Subject to
the terms and conditions of the Agreement, the Company has agreed to purchase certain
medical and other products from Chinese suppliers and manufacturers using the exclusive
sourcing services of Tiger Medical.

Pursuant to the terms of the
Agreement, the Company made an initial equity investment of $1.0 million in Tiger
Medical on January 25, 2005. In return for its initial equity investment, the
Company appointed two individuals to serve on the five-member board of directors of both
Tiger Specialty Sourcing Limited and Tiger Shanghai Specialty Sourcing Co. Ltd. The
Company ultimately has the right to increase its ownership interest in Tiger Medical to
100% during fiscal years 2006 through 2009 if certain performance targets are achieved.
The total purchase price to be paid by the Company for 100% ownership of Tiger Medical
ranges between $1.0 million and $32.5 million and depends on the satisfaction
of certain performance targets. Any investments made by the Company during fiscal years
2006 through 2008 will be credited against the final purchase price to be paid by the
Company. If at any time during the term of the Agreement, the Company achieves the
agreed-upon cost of goods savings target in any twelve-month period prior to
achieving the agreed-upon sales target, then either party has the right to trigger an
early buy-out of Tiger Medical by the Company.

24

Report of Independent
Registered Public Accounting Firm

The Board of Directors
and ShareholdersPSS World Medical, Inc.:

We have reviewed the consolidated
balance sheet of PSS World Medical, Inc. and subsidiaries as of December 31, 2004,
the related consolidated statements of operations for the three-month and nine-month
periods ended December 31, 2004 and 2003, and the related statements of cash flows
for nine-month periods ended December 31, 2004 and 2003. These consolidated financial
statements are the responsibility of the Companys management.

We conducted our reviews in
accordance with the standards of the Public Company Accounting Oversight Board (United
States). A review of interim financial information consists principally of applying
analytical procedures and making inquiries of persons responsible for financial and
accounting matters. It is substantially less in scope than an audit conducted in
accordance with the standards of the Public Company Accounting Oversight Board (United
States), the objective of which is the expression of an opinion regarding the financial
statements taken as a whole. Accordingly, we do not express such an opinion.

Based on our reviews, we are not
aware of any material modifications that should be made to the consolidated financial
statements referred to above for them to be in conformity with U.S. generally accepted
accounting principles.

We have previously audited, in
accordance with the standards of the Public Company Accounting Oversight Board (United
States), the consolidated balance sheet of PSS World Medical, Inc. and subsidiaries as of
April 2, 2004, and the related consolidated statements of operations,
shareholders equity, and cash flows for the year then ended (not presented herein);
and in our report dated June 7, 2004, we expressed an unqualified opinion on those
consolidated financial statements. Our report referred to the adoption of Emerging Issues
Task Force No. 02-16, Accounting by a Customer (Including a Reseller) for Certain
Consideration Received from a Vendor, effective November 21, 2002, and Statement
of Financial Accounting Standards No. 145, Rescissionof FASB Statements No.4,
44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections, effective
March 29, 2003. In our opinion, the information set forth in the accompanying
consolidated balance sheet as of April 2, 2004, is fairly stated, in all material
respects, in relation to the consolidated balance sheet from which it has been derived.

KPMG LLP

Jacksonville, Florida February 7, 2005

25

ITEM 2.
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

THE COMPANY

PSS World Medical, Inc. (the
Company or PSSI), a Florida corporation which began operations in
1983, is a specialty marketer and distributor of medical products, equipment, and
pharmaceutical related products to alternate-site healthcare providers including physician
offices, long-term care facilities, and home care providers through 43 full-service
distribution centers, which serve all 50 states throughout the United States of America.
PSSI is a leader in the two market segments it serves as a result of value-added,
solution-based marketing programs, a customer differentiated distribution and service
model, a consultative sales force with extensive product knowledge, unique arrangements
with product manufacturers, innovative information systems, and a culture of performance.
The Company is focused on improving business operations and management processes,
maximizing its core distribution capability and efficiency, and developing and
implementing innovative marketing strategies. In addition, the Company may selectively
make acquisitions to broaden its reach and leverage its infrastructure.

The Company currently conducts
business through two operating segments, the Physician Business and the Elder Care
Business. These strategic segments serve a diverse customer base. Historically, the
Company conducted business under a third operating segment, the Imaging Business. On
November 18, 2002, the Company completed the sale of the Imaging Business, or the
Diagnostic Imaging, Inc. subsidiary (DI), a distributor of medical diagnostic
imaging supplies, chemicals, equipment, and services to the acute and alternate-care
markets in the United States of America.

THE INDUSTRY

According to industry estimates, the
market size of the medical supply and equipment, home care and office administered
pharmaceutical segments of the healthcare industry in the United States of America is
approximately $43 billion. This market is comprised of medical products, medical
equipment, and pharmaceutical products administered in an out-patient setting, which are
distributed to alternate-site healthcare providers, including physician offices, long-term
care and assisted living facilities, home healthcare providers and agencies, dental
offices, and other alternate-site providers, such as outpatient surgery centers,
podiatrists, and veterinarians. The Companys primary focus is the $20 billion
market for the distribution of medical products, medical equipment and office administered
pharmaceutical products to physician offices, long-term care and assisted living
facilities, and home healthcare providers and equipment dealers.

The medical products distribution
industry continues to experience growth due to the aging population, increased healthcare
awareness, the proliferation of medical technology and testing, new pharmacology
treatments, and expanded third-party insurance coverage. The elder care market is expected
to continue benefiting from the increasing growth rate of the elderly American population.
For example, the January 2000 U.S. Bureau of the Census estimates that the elderly
population in America will more than double by the year 2040. In 2000, four million
Americans age 85 years and older represented the segment of the population that is in the
greatest need of long-term care and elder care services. By the year 2040, this segment of
the population is projected to more than triple to over 14 million. The segment of
the population who is age 65 to 84 years is projected to more than double in the same time
period. The physician market is expected to continue to benefit from the shift of
procedures and diagnostic testing in hospitals to alternate sites, particularly physician
offices and home care providers. Furthermore, as the cosmetic surgery and elective
procedure markets continue to grow, physicians are increasingly performing more of these
procedures in their offices. Currently, the estimated growth rate for the future of the
physician and elder care markets is approximately 4.0% and 1.5%, respectively. As a result
of these market dynamics, the annual expenditures for healthcare services continue to
increase in the United States of America. As cited in The Centers for Medicaid and
Medicare Services (CMS), Office of the Actuary, National Health Statistics Group 2002
study, Trends and Indicators in the Changing Health Care Marketplace, total
national health care spending reached $1.3 trillion in 2000, or 13.2% of the
nations gross domestic product. Health care spending is projected to reach
$2.6 trillion in 2010, or 16.8% of the estimated gross domestic product.

The healthcare industry is subject to
extensive government regulation, licensure, and operating compliance procedures. National
healthcare reform has been the subject of a number of legislative initiatives by Congress.
Additionally, government and private insurance programs fund the cost of a significant
portion of medical care in the United States of America. In recent years, federal and
state-imposed limits on reimbursement to hospitals, long-term care facilities, and other
healthcare providers have affected spending budgets in certain markets within the medical
products industry. The nursing home and home healthcare industry have been impacted by
these changes and a general economic downturn over the last few years. However, management
believes that the recent changes to Medicare and Medicaid reimbursement rates and the
introduction of the Medicare/Medicaid prescription drug program that became effective
beginning in the U.S. government fiscal year 2004 will positively impact the financial
condition of elder care providers and financial strength of the elder care industry.

26

OPERATING HIGHLIGHTS AND
TRENDS

The following tables set forth
certain financial information by business segment. All dollar amounts presented below are
in thousands unless otherwise indicated.

For the Three Months Ended

For the Nine Months Ended

December 31,
2004

December 31
2003

December 31
2004

December 31
2003

Net Sales:

Physician Business

$

243,439

$

231,343

$

697,514

$

653,144

Elder Care Business

134,403

112,318

374,955

345,357

Total

$

377,842

$

343,661

$

1,072,469

$

998,501

Net Sales Per Billing Day:(a)

Physician Business

$

3,991

$

3,856

$

3,710

$

3,402

Elder Care Business

2,203

1,872

1,995

1,799

Total

$

6,194

$

5,728

$

5,705

$

5,201

Income from Operations:

Physician Business

$

17,192

$

12,639

$

43,321

$

32,047

Elder Care Business

5,796

6,459

16,241

15,766

Corporate Shared Services

(7,730

)

(5,036

)

(16,533

)

(13,255

)

Total

$

15,258

$

14,062

$

43,029

$

34,558

Annualized

December 31,
2004

December 31,
2003

Days Sales Outstanding:(b)

Physician Business

43.1

42.3

Elder Care Business

59.5

55.0

Days On Hand:(c)

Physician Business

46.4

40.6

Elder Care Business

33.7

28.3

Days in Accounts Payable:(d)

Physician Business

43.7

40.5

Elder Care Business

25.3

29.2

Cash Conversion Days:(e)

Physician Business

45.8

42.4

Elder Care Business

67.9

54.1

Inventory Turnover:(f)

Physician Business

7.8x

8.9x

Elder Care Business

10.7

12.7

27

(a)

Net
sales per billing day are net sales divided by the number of selling days in
the fiscal period. The three months ended December 31, 2004 and 2003
consisted of 61 and 60 days, respectively. The nine months ended
December 31, 2004 and 2003 consisted of 188 and 192 days,
respectively.

(b)

Days
sales outstanding (DSO) is average accounts receivable divided
by average daily net sales. Average accounts receivable is the sum of
accounts receivable, net of the allowance for doubtful accounts, at the
beginning and end of the most recent four quarters divided by five.
Average daily net sales are net sales for the most recent four quarters
divided by 360.

(c)

Days
on hand (DOH) is average inventory divided by average daily
cost of goods sold (COGS). Average inventory is the sum of
inventory at the beginning and end of the most recent four quarters
divided by five. Average daily COGS is COGS for the most recent four
quarters divided by 360.

(d)

Days
in accounts payable (DIP) is average accounts payable divided
by average daily COGS. Average accounts payable is the sum of accounts
payable at the beginning and end of the most recent five quarters divided
by five.

(e)

Cash
conversion days is the sum of DSO and DOH, less DIP.

(f)

Inventory
turnover is 360 divided by DOH.

THREE MONTHS ENDED
DECEMBER 31, 2004 VERSUS THREE MONTHS ENDED DECEMBER 31, 2003

NET SALES

For the Three Months Ended

(dollars in millions)

December 31,2004

December 31,2003

Increase

PercentChange

Physician Business

$

243.4

$

231.4

$

12.0

5.2

%

Elder Care Business

134.4

112.3

22.1

19.7

%

Total

$

377.8

$

343.7

$

34.1

10.0

%

The comparability of net sales
quarter over quarter is impacted by the number of selling days in each quarter. The three
months ended December 31, 2004 and 2003 consisted of 61 and 60 selling days,
respectively. The following table summarizes net sales per billing day results quarter
over quarter:

Net Sales Per Billing Day
For the Three Months Ended

(dollars in millions)

December 31,2004

December 312003

PercentChange

Physician Business

$

4.0

$

3.8

3.5

%

Elder Care Business

2.2

1.9

17.7

%

Total

$

6.2

$

5.7

8.1

%

28

Physician Business

The increase in net sales is
primarily attributable to (i) an increase in branded consumable product sales of
approximately $10.2 million, (ii) an increase in pharmaceutical products
(excluding influenza vaccine sales) of $7.2 million, (iii) an increase in
equipment sales of approximately $6.2 million, and (iv) an increase in private
label consumable product sales of approximately $3.3 million, offset by (i) a
decrease in influenza vaccine sales of approximately $15.5 million, and (ii) a
decrease in immunoassay sales of approximately $0.3 million. Net sales continued to
be positively impacted by revenue growth programs that were launched in June 2003 to
increase the sale of consumable products, pharmaceutical products, and equipment. These
programs include:

Advantage Club- A customer membership club that enables customers to participate in exclusive
promotions for a broad selection of commonly used products.

Rx Extreme- A comprehensive program offering pharmaceutical, vaccine and general
injectibles products. The term Extreme symbolizes the Physician Business
significant commitment to its sales force and customers to become the leading provider of
these products.

Can-Do- An equipment marketing program that enables customers to access a broad portfolio of
industry-leading laboratory and diagnostic equipment, as well as certain exclusive
products available only through the Physician Business.

Net sales during the three months
ended December 31, 2004 were negatively impacted by Chiron Corporations
(Chiron) inability to supply the Fluvirin® influenza vaccine to the U.S.
market. The Medicines and Healthcare Products Regulatory Agency (MHRA),
the U.K.s regulatory body, temporarily suspended Chirons license to
manufacture the Fluvirin® influenza vaccine in Chirons Liverpool, U.K. facility.
Chiron was the Companys primary supplier of the influenza vaccine. Influenza vaccine
sales for the three months ended December 31, 2004 were approximately
$2.3 million compared to $17.8 million for the three months ended
December 31, 2003. Currently, it is uncertain whether MHRA will lift the suspension
in time for Chiron to produce the influenza vaccine for the 2005-2006 influenza season.

The following table compares the
product sales mix quarter over quarter:

For the Three Months Ended

December 31,
2004

December 31,
2003

Consumable products

63.4

%

60.6

%

Pharmaceutical products

18.4

%

22.9

%

Equipment and Immunoassay

18.2

%

16.5

%

Total

100.0

%

100.0

%

The sales mix for the three months
ended December 31, 2004 compared to the three months ended December 31, 2003 was
impacted by MHRAs action to suspend Chirons license to manufacture the
Fluvirin® influenza vaccine. The majority of influenza vaccine orders for fiscal year
2004 were delivered to customers during the three months ended December 31, 2003.
Equipment sales were positively impacted by a sales promotion that took place during the
three months ended December 31, 2004.

Elder Care Business

The increase in net sales is
primarily attributable to (i) an increase in sales to skilled nursing home facilities
of approximately $15.4 million, which includes a decrease in net sales to
corporate-owned facilities of approximately $8.2 million and an increase in sales to
home care facilities of $5.2 million and (ii) an increase in ancillary billing
service fees of $1.2 million as a result of acquisitions consummated during fiscal
years 2004 and 2005. The growth in net sales to skilled nursing home facilities primarily
resulted from new customers, acquisitions, and increased penetration in existing customer
facilities. The decrease in net sales to corporate accounts (national and regional nursing
home facilities) is primarily attributable to national chain customers divesting nursing
home facilities.

29

Net sales were impacted by the
continued implementation of the following innovative Elder Care customer specific solution
programs:

ANSWERS, ANSWERS Housekeeping, ANSWERS Home Medical Equipment- Marketing programs that align improved
business processes in the nursing home operations and purchasing, with more efficient
distribution activities of the Elder Care Business. In addition to reducing distribution
costs by encouraging more efficient buying patterns, these programs provide opportunities
for manufacturing partners to increase sales volume of category-leading, name-brand
products while providing customers the opportunity to purchase higher quality products at
reduced prices, which improve patient care outcomes for the Elder Care customers.

Partners in Efficiency- A product program designed to reduce customers product
procurement costs and increase operating efficiencies in their businesses by committing to
certain purchasing levels and standardized ordering procedures.

Fast Accurate Supply Technology- An ordering, bar-code scanning, inventory management
software that utilizes a Palm Pilot to track inventory on hand at the customer locations
and facilitate the automated replenishment of medical supplies.

The following table compares the
customer segment sales mix quarter over quarter:

For the Three Months Ended

December 31,2004

December 31,2003

Nursing home and assisted living

facilities:

Corporate accounts

36.1

%

50.3

%

Independent accounts

41.1

%

27.4

%

Subtotal

77.2

%

77.7

%

Home care

22.8

%

22.3

%

Total

100.0

%

100.0

%

The sales mix comparison quarter over
quarter has been impacted by managements increased focus during fiscal years 2004
and 2005 on growing independent and regional accounts and increasing sales to the home
care market to offset the impact of large, national chain customer divestitures. During
fiscal year 2005, national nursing home chain customers may continue to divest
underperforming facilities and facilities located in states with high malpractice claims,
insurance costs, and litigation exposure. During fiscal year 2004, a dedicated sales force
to service home care customers was established and a new home care marketing program was
introduced.

Net sales quarter over quarter were
also positively impacted by business combinations consummated during fiscal years 2004 and
2005. As a result of these business combinations, approximately $11.9 million (of
which approximately $9.3 million relates to sales to independent accounts) of
additional net sales were recognized during the three months ended December 31, 2004
compared to the three months ended December 31, 2003.

GROSS PROFIT

Gross profit for the three months
ended December 31, 2004 totaled $109.2 million, an increase of
$12.2 million, or 12.6%, from gross profit of $97.0 million for the three months
ended December 31, 2003. Gross profit as a percentage of net sales increased 70 basis
points to 28.9% during the three months ended December 31, 2004 from 28.2% during the
three months ended December 31, 2003.

30

Physician Business

Gross profit dollars increased
primarily due to the growth in net sales discussed above as well as increased
profitability generated by inventory procurement-to-pay process improvements. Gross profit
as a percentage of net sales increased approximately 120 basis points quarter over quarter
as a result of earning higher vendor incentives. Gross profit during the three months
ended December 31, 2003 included influenza vaccine sales of approximately
$17.8 million which generated a lower gross profit margin. Gross profit as a
percentage of net sales may continue to decrease in future periods due to an expected
increased sales volume of pharmaceutical products and diagnostic equipment in the
Physician Business, which generally generate lower gross profit margins.

Elder Care Business

Gross profit dollars increased
primarily due to the growth in net sales discussed above. Gross profit as a percentage of
net sales remained relatively constant quarter over quarter.

GENERAL AND
ADMINISTRATIVE EXPENSES

For the Three Months Ended

December 31, 2004

December 31, 2003

(dollars in millions)

Amount

% of NetSales

Amount

% of NetSales

Increase

Physician Business(a)

$

36.3

14.9

%

$

35.1

15.2

%

$

1.2

Elder Care Business(a)

24.8

18.5

%

18.9

16.8

%

5.9

Corporate Shared Services(b)

7.7

2.0

%

5.0

1.5

%

2.7

Total(b)

$

68.8

18.2

%

$

59.0

17.2

%

$

9.8

(a)

General
and administrative expenses as a percentage of net sales is calculated based on
divisional net sales.

(b)

General
and administrative expenses as a percentage of net sales is calculated based on
consolidated net sales.

Physician Business

General and administrative expenses
as a percentage of net sales decreased 30 basis points quarter over quarter. This
percentage decrease is attributable to leveraging the net sales growth across various
fixed costs and the Companys focus on reducing its cost to deliver. Cost to deliver
represents all costs associated with the transportation and delivery of products to
customers. Cost to deliver as a percentage of net sales was 2.9% and 3.0% during the three
months ended December 31, 2004 and 2003, respectively. This percentage decrease is a
result of a decrease in freight costs due to negotiated lower freight rates, route
optimization of the Companys fleet, and optimization of shipments between branches,
offset by an increase in fuel costs. Management anticipates that rising fuel costs may
continue to negatively impact cost to deliver or expected improvements in cost to deliver
during the remainder of fiscal year 2005 and fiscal year 2006.

There were relatively insignificant
changes in the other components of general and administrative expenses quarter over
quarter.

31

Elder Care Business

General and administrative expenses
as a percentage of net sales increased 170 basis points quarter over quarter. Cost to
deliver as a percentage of net sales was 4.2% and 4.0% during the three months ended
December 31, 2004 and 2003, respectively. During fiscal year 2004, management
implemented various process improvements to reduce the cost to deliver, which resulted in
a decrease in freight costs due to negotiated lower freight rates. However, this decrease
was offset by an increase in fuel costs. Management anticipates that rising fuel costs may
negatively impact the cost to deliver or expected improvements in cost to deliver during
the remainder of fiscal year 2005 and fiscal year 2006.

The increase in other components of
general and administrative expenses is primarily attributable to (i) an increase in
the provision for doubtful accounts of approximately $1.3 million primarily due a
change in accounting estimate which resulted in a one-time reduction in the provision for
doubtful accounts during the three months ended December 31, 2003,
(ii) increased salary expense of approximately $0.9 million due to additional
employees as a result of the business combinations completed during fiscal years 2004 and
2005, (iii) approximately $0.6 million of costs related to the implementation of
the JD Edwards XE® platform, and (iv) increased amortization of intangible assets
of approximately $0.4 million as a result of the business combinations.

Corporate Shared Services

The increase in general and
administrative expenses is primarily attributable to (i) an increase in accrued incentive
compensation of approximately $3.0 million which primarily related to triggering a projected
higher pay-out under the Shareholder Value Plan due to improved profitability,
(ii) an increase in salary expense of approximately $0.8 million due to the
addition of executive level management as well as general wage increases, (iii) an
increase in depreciation expense of approximately $0.6 million, (iv) an increase
in professional fees of approximately $0.5 million primarily related to costs for
legal and audit support of the tax settlement with the Internal Revenue Service, and
(v) an increase in professional fees of approximately $0.5 million associated
with Section 404 of the Sarbanes-Oxley Act, offset by a decrease in business
insurance expense of approximately $0.5 million due to general rate decreases.

SELLING EXPENSES

For the Three Months Ended

December 31, 2004

December 31, 2003

(dollars in millions)

Amount

% of NetSales

Amount

% of NetSales

Increase

Physician Business

$

20.4

8.4

%

$

19.8

8.6

%

$

0.6

Elder Care Business

4.7

3.5

%

4.2

3.7

%

0.5

Total

$

25.1

6.6

%

$

24.0

7.0

%

$

1.1

Overall, the change in selling
expenses is primarily attributable to an increase in commission expense due to the growth
in net sales discussed above. Commissions are generally paid to sales representatives
based on gross profit dollars and gross profit as a percentage of net sales.

Physician Business and
Elder Care Business

Selling expenses as a percentage of
net sales decreased approximately 20 basis points, which is primarily attributable to
leveraging the net sales growth across certain fixed selling expenses.

32

INCOME FROM OPERATIONS

For the Three Months Ended

December 31, 2004

December 31, 2003

(dollars in millions)

Amount

% of NetSales

Amount

% of NetSales

Increase(Decrease)

Physician Business

$

17.2

7.1

%

$

12.6

5.5

%

$

4.6

Elder Care Business

5.8

4.3

%

6.5

5.8

%

(0.7

)

Corporate Shared Services

(7.7

)

--

(5.0

)

--

(2.7

)

Total Company

$

15.3

4.0

%

$

14.1

4.1

%

$

1.2

Income from operations for each
business segment changed due to the factors discussed above.

INTEREST EXPENSE

Interest expense for the three months
ended December 31, 2004 totaled $1.7 million, an increase of $0.3 million,
or 21.0%, from interest expense of $1.4 million for the three months ended
December 31, 2003. During the three months ended December 31, 2004, the
Companys debt structure consisted of the $150 million senior convertible notes
and variable rate borrowings under its revolving line of credit agreement. Interest
expense and debt issuance costs related to the Companys 2.25% convertible senior
notes totaled approximately $1.1 million during the three months ended
December 31, 2004. The remaining interest expense of $0.6 million is
attributable to the revolving line of credit. The daily average outstanding borrowings
under the revolving line of credit during the three months ended December 31, 2004
were approximately $34.5 million. The interest rate swap arrangement established an
interest rate at 3.945% (consisting of a fixed interest rate of 2.195% and a credit spread
of 1.75%) for a notional amount of $25 million. Interest expense related to the
interest rate swap was approximately $0.2 million. Variable interest expense related
to the daily average outstanding borrowings of $9.5 million (weighted average
interest rate of 4.72%) was approximately $0.1 million. Amortization of the debt
issuance costs and fees on the unused portion of the line of credit were approximately
$0.3 million.

During the three months ended
December 31, 2003, the Companys debt structure consisted of variable rate
borrowings under its revolving credit agreement. The daily average outstanding borrowings
under the revolving line of credit during the three months ended December 31, 2003
were approximately $124.4 million. The interest rate swap arrangement established an
interest rate at 4.195% (consisting of a fixed interest rate of 2.195% and a credit spread
of 2.00%) for a notional amount of $35 million. Interest expense related to the
interest rate swap was approximately $0.3 million. Variable interest expense related
to the daily average outstanding borrowings of $89.4 million (weighted average
interest rate of 3.51%) was approximately $0.8 million. Amortization of the debt
issuance costs and fees on the unused portion of the line of credit were approximately
$0.3 million.

OTHER INCOME

Other income for the three months
ended December 31, 2004 and 2003 was immaterial. Approximately $0.2 million of
other income was recorded during the three months ended December 31, 2003 as a result
of the transition services agreement associated with the sale of the Imaging Business.
This agreement was terminated during fiscal year 2004.

BENEFIT (PROVISION) FOR
INCOME TAXES

Benefit for income taxes was
$0.5 million for the three months ended December 31, 2004, a decrease of
$5.2 million from the provision for income taxes of $4.7 million for the three
months ended December 31, 2003. The effective income tax rate was approximately
3.8% and 36.2% for the three months ended December 31, 2004 and 2003,
respectively. The decrease in the effective rate is primarily attributable to an Internal
Revenue Service (IRS) Appeals settlement, which resulted in a one-time
reduction in income taxes of approximately $5.6 million. The decrease in the
effective rate was partially offset by an increase in permanent adjustments and an
increase in the projected annual income from continuing operations before provision for
income taxes. The increase in permanent adjustments primarily relates to an increase in
nondeductible amortization of intangible assets recorded as a result of the Companys
stock acquisitions completed during fiscal year 2004.

33

During fiscal year 2002, the IRS
notified the Company that the federal income tax returns for the fiscal years ended
March 31, 2000 and March 30, 2001 would be examined. During the three months
ended December 31, 2003, fieldwork was completed and the Company received the
IRSs report. The Company appealed certain audit findings, which primarily related to
timing of tax deductions, with the Appeals Office of the IRS.

During fiscal year 2002, the Company
sold its International Business, which generated a capital loss carryforward. At the time
of sale, management believed it was more likely than not that the Company would be unable
to use the capital loss before its expiration in fiscal year 2007 and, accordingly, a
valuation allowance was recorded. Based on recent Tax Court rulings, the Company filed a
refund claim with the IRS during the three months ended December 31, 2003, to report
an ordinary worthless stock deduction on the sale of the International Business. The
refund claim reflected a reclassification of the nondeductible capital loss to a
tax-deductible ordinary loss.

During the three months ended
December 31, 2004, the Company reached a settlement with the Appeals Office of the
IRS regarding its audit findings for the fiscal years ended March 31, 2000 and
March 30, 2001and the refund claim. This settlement, which is subject to final review
and approval by the Congressional Joint Committee on Taxation (Joint
Committee), resulted in a one-time reduction to the provision for income taxes of
approximately $5.6 million, or approximately $0.08 diluted earnings per share.
Management believes that the Joint Committee will uphold and approve the agreed-upon
settlement with the Appeals Office of the IRS.

During the three months ended
December 31, 2004, the IRS completed fieldwork on the audit of the federal income tax
returns for the fiscal years ended March 29, 2002 and March 28, 2003. The
Company plans to appeal certain findings, which primarily related to timing of tax
deductions, with the Appeals Office of the IRS. Management does not anticipate the results
of the audit to have a material impact on the financial condition or consolidated results
of operations of the Company.

INCOME (LOSS) ON
DISPOSAL OF DISCONTINUED OPERATIONS

The income on disposal of
discontinued operations of $1.3 million recorded during the three months ended
December 31, 2004 represented (i) a reversal of the remaining accrued loss on
disposal of $0.3 million, net of provision for income taxes of approximately
$0.2 million, in order to true-up managements estimated legal and professional
fees based on actual payments made and (ii) a reversal of a tax reserve of
approximately $1.0 million.

The Company recorded a deferred tax
asset of approximately $58.0 million at December 31, 2004, which represented the
tax effect of the actual loss generated as a result of the sale of the Imaging Business.
Under the terms of the Stock Purchase Agreement, the Company made a joint election with
the Buyer to treat the transaction as a sale of assets in accordance with §338(h)(10)
of the Internal Revenue Code. Management estimates that this NOL will be carried forward
and applied against regular taxable income in future years. In future periods, the
provision for income taxes will be recorded in the statements of operations at the
appropriate effective tax rate based on income generated by the Company.

NET INCOME

Net income for the three months ended
December 31, 2004 totaled $15.7 million compared to net income of
$8.3 million for the three months ended December 31, 2003. Variances are due to
the factors discussed above.

The comparability of net sales period
over period is impacted by the number of selling days in each quarter. The nine months
ended December 31, 2004 and 2003 consisted of 188 and 192 selling days, respectively.
The following table summarizes net sales per billing day period over period:

Net Sales Per Billing DayFor the Nine Months Ended

(dollars in millions)

December 31,2004

December 31,2003

PercentChange

Physician Business

$

3.7

$

3.4

9.1

%

Elder Care Business

2.0

1.8

10.9

%

Total

$

5.7

$

5.2

9.7

%

Physician Business

The increase in net sales is
primarily attributable to (i) an increase in pharmaceutical sales (excluding
influenza vaccine sales) of approximately $25.8 million, (ii) an increase in
branded consumable product sales of approximately $23.9 million, (iii) an
increase in equipment sales of approximately $10.2 million, and (iv) an increase
in private label consumable product sales of approximately $6.4 million, offset by
(i) a decrease in influenza vaccine sales of approximately $21.0 million and
(ii) a decrease in immunoassay sales of approximately $2.4 million.
Pharmaceutical product sales during the nine months ended December 31, 2004 were
negatively impacted by Chirons inability to manufacture the Fluvirin® influenza
vaccine. The strategic plan for fiscal year 2005 included approximately $44.0 million
of influenza vaccine sales. Due to the unavailability of the Fluvirin® influenza
vaccine, diluted earnings per share for the nine months ended December 31, 2004 was
negatively impacted by approximately $0.04. Excluding the impact of the influenza
vaccines, net sales continued to be positively impacted by revenue growth programs that
are discussed above. Influenza vaccine sales for the nine months ended December 31,
2004 were approximately $2.3 million compared to $23.3 million for the nine
months ended December 31, 2003.

35

The following table compares the
product sales mix period over period:

For the Nine Months Ended

December 31, 2004

December 31, 2003

Consumable products

64.7

%

64.4

%

Pharmaceutical products

17.3

%

17.7

%

Equipment and Immunoassay

18.0

%

17.9

%

Total

100.0

%

100.0

%

Over the last fiscal year, the
Physician Business sales mix changed due to managements focus on growing
pharmaceutical product sales by establishing the Rx Extreme revenue growth program.
Pharmaceutical product sales were positively impacted during the nine months ended
December 31, 2004 as a result of expanding the Physician Business product
offering. However, the unavailability of the influenza vaccine negatively impacted the
pharmaceutical product sales mix during the nine months ended December 31, 2004.
Management expects the sales mix for the fiscal year ended April 1, 2005 compared to
the fiscal year ended April 2, 2004 to continue to be impacted by MHRAs action
to suspend Chirons license to manufacture the Fluvirin® influenza vaccine.

Elder Care Business

The increase in net sales is
primarily attributable to (i) an increase in sales to skilled nursing home facilities
of approximately $20.3 million, which includes a decrease in net sales to
corporate-owned facilities of approximately $6.0 million and an increase in sales to
home care facilities of $3.9 million and (ii) an increase in ancillary billing
service fees of $7.2 million as a result of an acquisition consummated during fiscal
year 2004. The growth in net sales to skilled nursing home facilities primarily resulted
from new customers, acquisitions, increased penetration in existing customer facilities,
and the introduction of new product lines. The decrease in net sales to corporate accounts
(national and regional nursing home facilities) is primarily attributable to national
chain customers divesting nursing home facilities. Net sales during the nine months ended
December 31, 2004 decreased approximately $10.0 million as a result of the loss
of Integrated Health Services, Inc., a national chain customer, during fiscal year 2004.

Net sales were impacted by the
continued implementation of the innovative Elder Care customer specific solution programs
discussed above.

The following table compares the
customer segment sales mix period over period:

For the Nine Months Ended

December 31, 2004

December 31, 2003

Nursing home and assisted living

facilities:

Corporate accounts

48.1

%

53.2

%

Independent accounts

31.0

%

25.6

%

Subtotal

79.1

%

78.8

%

Home care

20.9

%

21.2

%

Total

100.0

%

100.0

%

The sales mix comparison period over
period has been impacted by managements increased focus during fiscal years 2004 and
2005 on growing independent and regional accounts and on increasing sales to the home care
market to offset the impact of large, national chain customer divestitures.

36

Net sales period over period were
also positively impacted by business combinations consummated during fiscal years 2004 and
2005. As a result of these business combinations, approximately $27.3 million of
additional net sales were recognized during the nine months ended December 31, 2004
compared to the nine months ended December 31, 2003.

GROSS PROFIT

Gross profit for the nine months
ended December 31, 2004 totaled $310.3 million, an increase of
$27.3 million, or 9.7%, from gross profit of $283.0 million for the nine months
ended December 31, 2003. Gross profit as a percentage of net sales increased 60 basis
points to 28.9% during the nine months ended December 31, 2004 from 28.3% during the
nine months ended December 31, 2003.

Physician Business

Gross profit dollars increased
primarily due to the growth in net sales discussed above as well as increased
profitability generated by inventory procurement-to-pay process improvements. The Company
believes its strategy of centralizing the procurement and disbursements functions has
resulted, and will continue to result, in efficiencies and savings that will increase
gross profit. Gross profit as a percentage of net sales increased approximately
20 basis points period over period as a result of earning higher vendor incentives.
Gross profit during the nine months ended December 31, 2003 included influenza
vaccine sales of approximately $23.3 million which generated a lower gross profit
margin. Gross profit as a percentage of net sales may decrease in future periods due to an
expected increased sales volume of pharmaceutical products and diagnostic equipment in the
Physician Business, which generally generate lower gross profit margins.

Elder Care Business

Gross profit dollars increased
primarily due to the growth in net sales discussed above. Gross profit as a percentage of
net sales increased primarily as a result of the replacement of revenues from lower margin
national accounts with higher margin regional and independent accounts. In addition,
ancillary billing services typically generate higher gross profit margins. Gross profit as
a percentage of net sales may increase in future periods as a result of net sales growth
in ancillary billing services. In addition, gross profit has increased as a result of
increased vendor incentives.

GENERAL AND ADMINISTRATIVE EXPENSES

For the Nine Months Ended

December 31, 2004

December 31, 2003

(dollars in millions)

Amount

% of NetSales

Amount

% of NetSales

Increase

Physician Business(a)

$

109.2

15.6

%

$

107.1

16.4

%

$

2.1

Elder Care Business(a)

68.4

18.2

%

58.3

16.9

%

10.1

Corporate Shared Services(b)

16.5

1.5

%

13.3

1.3

%

3.2

Total(b)

$

194.1

18.1

%

$

178.7

17.9

%

$

15.4

(a)

General
and administrative expenses as a percentage of net sales is calculated based on
divisional net sales.

(b)

General
and administrative expenses as a percentage of net sales is calculated based on
consolidated net sales.

Physician Business

General and administrative expenses
as a percentage of net sales decreased 80 basis points period over period. This percentage
decrease is attributable to leveraging the net sales growth across various fixed costs and
the Companys focus on reducing its cost to deliver. Cost to

37

deliver as a percentage of net sales
was 3.0% and 3.1% during the nine months ended December 31, 2004 and 2003,
respectively. This percentage decrease is a result of a decrease in freight costs due to
negotiated lower freight rates, route optimization of the Companys fleet, and
optimization of shipments between branches, offset by an increase in fuel costs.

There were relatively insignificant
changes in the other components of general and administrative expenses period over period.
However, marketing expenses increased approximately $0.7 million as a result of
promotions for the revenue growth programs discussed above, incentive compensation
increased approximately $0.6 million as a result of improved profitability, and legal
fees increased approximately $0.5 million as a result of recent litigation.

Elder Care Business

General and administrative expenses
as a percentage of net sales increased 130 basis points period over period. Cost to
deliver as a percentage of net sales was 4.2% and 4.1% during the nine months ended
December 31, 2004 and 2003, respectively. During fiscal year 2004, management focused
on reducing the cost to deliver which resulted in a decrease in freight costs due to
negotiated lower freight rates, but this decrease was offset by an increase in fuel costs.
Management anticipates that rising fuel costs may negatively impact the cost to deliver or
expected improvements in cost to deliver during the remainder of fiscal year 2005 and
fiscal year 2006.

There were relatively insignificant
changes in the other components of general and administrative expenses period over period.
Such changes are primarily related to the acquisition of the ancillary billing company
during fiscal year 2004 and the acquisition of a long-term medical supply distributor
during the three months ended December 31, 2004, including (i) increased salary
expense of approximately $2.5 million due to additional employees as a result of the
business combinations completed during fiscal years 2004 and 2005 and (ii) increased
amortization of intangible assets of approximately $1.0 million as a result of these
business combinations. In addition, costs related to the implementation of the JD Edwards
XE® platform were approximately $0.9 million during the nine months ended
December 31, 2004.

Corporate Shared Services

The increase in general and
administrative expenses is primarily attributable to (i) an increase in accrued incentive
compensation of approximately $4.2 million which primarily related to triggering a projected
higher pay-out under the Shareholder Value Plan due to improved profitability,
(ii) an operating tax charge reserve of approximately $1.4 million was reversed
during the three months ended October 3, 2003, (iii) an increase in depreciation
of approximately $1.3 million, (iv) an increase in salary expense of
approximately $1.2 million due to the addition of executive level management as well
as general wage increases, and (v) an increase in professional fees of approximately
$1.1 million primarily related to costs incurred to comply with Section 404 of the
Sarbanes-Oxley Act, offset by (i) a decrease in business insurance expense of
approximately $0.7 million due to general rate decreases, (ii) a decrease in the
cost of the private data network of approximately $0.9 million as a result of
reducing the number of service center locations and the conversion to a virtual private
network for data transmission, and (iii) a decrease in medical insurance costs of
approximately $0.7 million primarily related to improved medical claim experience
compared to the prior period.

SELLING EXPENSES

For the Nine Months Ended

December 31, 2004

December 31, 2003

(dollars in millions)

Amount

% of Net
Sales

Amount

% of Net
Sales

Increase

Physician Business

$

60.0

8.6

%

$

58.3

8.9

%

$

1.7

Elder Care Business

13.2

3.5

%

11.4

3.3

%

1.8

Total Company

$

73.2

6.8

%

$

69.7

7.0

%

$

3.5

38

Overall, the change in selling
expenses is primarily attributable to an increase in commission expense due to the growth
in net sales discussed above. Commissions are generally paid to sales representatives
based on gross profit dollars and gross profit as a percentage of net sales.

Physician Business

Selling expenses as a percentage of
net sales decreased approximately 30 basis points, which is primarily attributable to
leveraging the net sales growth across certain fixed selling expenses.

Elder Care Business

Selling expenses as a percentage of
net sales increased approximately 20 basis points due to (i) the addition of higher
margin business that pays higher commission rates, (ii) the addition of corporate
account executives and sales representatives primarily in the home care market, and
(iii) the increased selling expenses associated with the ancillary billing company
that was acquired during fiscal year 2004 and the long-term medical supply distributor
acquired during the three months ended December 31, 2004.

INCOME FROM OPERATIONS

For the Nine Months Ended

December 31, 2004

December 31, 2003

(dollars in millions)

Amount

% of NetSales

Amount

% of NetSales

Increase(Decrease)

Physician Business

$

43.3

6.2

%

$

32.0

4.9

%

$

11.3

Elder Care Business

16.2

4.3

%

15.8

4.6

%

0.4

Corporate Shared Services

(16.5

)

--

(13.2

)

--

(3.3

)

Total Company

$

43.0

4.0

%

$

34.6

3.5

%

$

8.4

Income from operations for each
business segment changed due to the factors discussed above.

INTEREST EXPENSE

Interest expense for the nine months
ended December 31, 2004 totaled $5.5 million, an increase of $1.6 million,
or 41.1%, from interest expense of $3.9 million for the nine months ended
December 31, 2003. During the nine months ended December 31, 2004, the
Companys debt structure consisted of the $150 million senior convertible notes
and variable rate borrowings under its revolving line of credit agreement. Interest
expense and debt issuance costs related to the Companys 2.25% convertible senior
notes totaled approximately $3.3 million during the nine months ended
December 31, 2004. The remaining interest expense of $2.2 million is
attributable to the revolving line of credit. The daily average outstanding borrowings
under the revolving line of credit during the nine months ended December 31, 2004
were approximately $33.0 million. The interest rate swap arrangement established an
interest rate at 4.195% (consisting of a fixed interest rate of 2.195% and a credit spread
of 2.00%) for a notional amount of $35 million for four months during the period.
During July 2004, the Company terminated $10 million of the notional amount. The
amended interest rate swap arrangement established an interest rate at 3.945% (consisting
of a fixed interest rate of 2.195% and a credit spread of 1.75%) for a notional amount of
$25 million for five months. Interest expense related to the interest rate swap was
approximately $0.9 million during the period. Variable interest expense related to
the daily average outstanding borrowings of $3.8 million (weighted average interest
rate of 4.08%) was approximately $0.1 million. Amortization of the debt issuance
costs and fees on the unused portion of the line of credit were approximately
$1.2 million.

39

During the nine months ended
December 31, 2003, the Companys debt structure consisted of variable rate
borrowings under its revolving credit agreement. The daily average outstanding borrowings
under the revolving line of credit during the nine months ended December 31, 2003
were approximately $101.9 million. The interest rate swap arrangement established an
interest rate at 4.195% (consisting of a fixed interest rate of 2.195% and a credit spread
of 2.00%) for a notional amount of $35 million. Interest expense related to the
interest rate swap was approximately $1.1 million. Variable interest expense related
to the daily average outstanding borrowings of $89.4 million (weighted average
interest rate of 3.80%) was approximately $1.9 million. Amortization of the debt
issuance costs and fees on the unused portion of the line of credit were approximately
$0.9 million.

OTHER INCOME

Other income for the nine months
ended December 31, 2004 totaled $1.0 million, a decrease of $2.7 million
from other income of $3.7 million for the nine months ended December 31, 2003.
The decrease is primarily related to the $3.0 million of other income that was
recorded as a result of the transition services agreement associated with the sale of the
Imaging Business. This agreement was terminated during fiscal year 2004.

PROVISION FOR INCOME
TAXES

Provision for income taxes was
$9.6 million for the nine months ended December 31, 2004, a decrease of
$3.6 million from the provision for income taxes of $13.2 million for the nine
months ended December 31, 2003. The effective income tax rate was approximately 24.8%
and 38.3% for the nine months ended December 31, 2004 and 2003, respectively. The
effective rate decreased as a result of the IRS Appeals settlement which resulted in a
one-time reduction in income taxes of approximately $5.6 million, or $0.08 diluted
earnings per share. The decrease in the effective rate was partially offset by an increase
in permanent adjustments and an increase in the projected annual income from continuing
operations before provision for income taxes. The increase in permanent adjustments
primarily relates to an increase in nondeductible amortization of intangible assets
recorded as a result of the Companys stock acquisitions completed during fiscal year
2004.

LOSS ON DISPOSAL OF
DISCONTINUED OPERATIONS

The loss on disposal of discontinued operations
of approximately $0.4 million recorded during the nine months ended December 31,
2004 represented (i) a true-up of managements estimated net asset adjustment to
the actual net asset adjustment as indicated in the arbitrators final ruling of
$1.8 million and (ii) interest of $0.4 million, offset by a reversal of a
tax reserve of approximately $1.0 million and a benefit for income taxes of
$0.8 million.

The loss on disposal of discontinued
operations of approximately $0.3 million, net of a benefit for income taxes of
$0.2 million, recorded during the nine months ended December 31, 2003
represented legal and professional fees.

NET INCOME

Net income for the nine months ended
December 31, 2004 totaled $28.7 million compared to net income of
$20.9 million for the nine months ended December 31, 2003. Variances are due to
the factors discussed above.

40

LIQUIDITY AND CAPITAL
RESOURCES

Highlights

(dollars in thousands)

For the Three Months Ended

For the Nine Months Ended

December 31,2004

December 31,2003

December 31,2004

December 312003

Cash Flow Information:

Net cash (used in) provided by

operating activities

$

(3,297

)

$

12,995

$

22,281

$

31

Net cash used in investing

activities

(30,682

)

(10,159

)

(51,430

)

(31,579

)

Net cash provided by (used in)

financing activities

2,045

3,456

(16,122

)

28,281

Net (decrease) increase in cash and

cash equivalents

$

(31,934

)

$

6,292

$

(45,271

)

$

(3,267

)

(dollars in thousands)

As of

December 31, 2004

April 2, 2004

Capital Structure:

Debt

$

175,000

$

185,000

Less: Cash and cash equivalents

(13,657

)

(58,928

)

Net debt

161,343

126,072

Shareholders' equity

264,142

239,188

Total capital

$

425,485

$

365,260

Operating Working Capital:

Accounts receivable

$

209,342

$

188,421

Inventories

147,470

99,864

Accounts payable

(127,465

)

(91,160

)

Total

$

229,347

$

197,125

Discussion of Cash Flows
From Operating, Investing, and Financing Activities

The primary components of net cash
provided by operating activities consist of net income adjusted to reflect the effect of
non-cash expenses and changes in operating working capital.

Cash flows from operating activities
during the nine months ended December 31, 2004 reflects the Companys
utilization of $10.1 million (tax-effected) of net operating loss (NOL)
carryforwards to offset current Federal and state tax liabilities. In addition, the NOL
carryforwards were increased by approximately $5.9 million as a result of the IRS
audit adjustments discussed above. As of December 31, 2004, the Company has
$29.3 million (tax-effected) of NOL carryforwards remaining and expects to utilize
the remaining Federal NOL carryforward, as well as a portion of the remaining state NOL
carryforwards, through fiscal year 2006. In addition, during the nine months ended
December 31, 2004:

41

Accounts receivable increased approximately $17.6 million. The growth in accounts receivable
from December 31, 2003 to December 31, 2004 was approximately 11.1%. This growth
rate is consistent with the net sales growth rate of 10.0% for the three months ended
December 31, 2004 compared to the three months ended December 31, 2003.

Inventories increased approximately $44.3 million (i) to support pharmaceutical sales growth
in the Physician Business, (ii) to support further expansion into the durable medical
equipment and homecare markets by the Elder Care Business, (iii) due to increased purchases in anticipation of price increases from certain vendors, (iv) to support the implementation of
the JD Edwards XE® platform in the Elder Care Business, and (v) to protect customer service levels during the
integration of the company acquired in the Elder Care Business during the three months
ended December 31, 2004.

Accounts payable increased approximately $30.6 million. This increase was not in line with the
increase in inventories as a result of (i) an increase of accelerated payments to selected vendors to take advantage
of more favorable discount terms compared to the prior period and (ii) the payment of aged accounts payable
balances that were acquired during the three months ended December 31, 2004.

Overall, net cash provided by
operating activities during the nine months ended December 31, 2004 was impacted by
an increase in overall operating profit which was partially offset by operational working
capital needs to support net sales growth.

Cash flows from operating activities
during the nine months ended December 31, 2003 reflects the Companys
utilization of $14.8 million (tax-effected) of NOL carryforwards to offset current
Federal and state tax liabilities. In addition, during the nine months ended
December 31, 2003:

Accounts
receivable increased approximately $32.4 million as a result of the successful sales
growth initiatives launched during the first quarter of fiscal year 2004 in the Physician
and Elder Care Businesses.

Inventories
increased approximately $32.2 million primarily to support pharmaceutical sales
growth in the Physician Business and as a result of expansion into the durable medical
equipment and housekeeping markets by the Elder Care Business.

Accounts
payable increased approximately $11.9 million. This increase did not correspond to
the overall increase in inventories as a result of the Companys acceleration of
payments to selected vendors to take advantage of more favorable discount terms.

Net cash used in investing activities
was $51.4 million and $31.6 million during the nine months ended
December 31, 2004 and 2003, respectively. The following primarily impacted net cash
used in investing activities during the nine months ended December 31, 2004 and 2003:

Capital
expenditures totaled $17.7 million and $10.4 million during the nine months
ended December 31, 2004 and 2003, respectively, of which approximately
$11.8 million and $5.6 million, respectively, related to development and
enhancement of the Companys ERP system, electronic commerce platforms, and supply
chain integration. Capital expenditures related to the distribution center expansions as a
result of the Rationalization Programs were approximately $1.6 million and
$2.8 million during the nine months ended December 31, 2004 and 2003,
respectively.

Payments
related to business combinations, net of cash acquired, were $22.2 million and
$19.3 million during the nine months ended December 31, 2004 and 2003,
respectively. During the nine months ended December 31, 2004, the Elder Care Business
completed one acquisition and paid approximately $20.5 million, net of cash acquired
of approximately $0.4 million. In addition, the Company paid approximately
$1.7 million to the prior owners of a company acquired during fiscal year 2004 in
accordance with an earn-out provision included in the purchase agreement. During the nine
months ended December 31, 2003, the Company completed three acquisitions and paid
approximately $19.3 million, net of cash acquired of approximately $0.1 million.

During
the nine months ended December 31, 2004, the Physician Business paid approximately
$6.1 million to sales representatives for execution of non-solicitation agreements.
Refer to Critical Accounting Policies for a discussion regarding
non-solicitation agreements.

42

Transaction
and settlement costs related to the sale of the Imaging Business of approximately
$4.9 million and $1.6 million were paid during the nine months ended
December 31, 2004 and 2003, respectively. As a result of the final ruling from the arbitrator regarding the disputed net
asset calculation, a cash payment of approximately $4.3 million was made to
the buyer of the Imaging Business during the nine months ended December 31,
2004.

Net cash used in financing activities
was $16.1 million during the nine months ended December 31, 2004 compared to net
cash provided by financing activities of $28.3 million during the nine months ended
December 31, 2003. Net cash (used in) provided by financing activities during the
nine months ended December 31, 2004 and 2003 was primarily impacted by the following:

During
the nine months ended December 31, 2004, the Company decreased its borrowings under
the revolving line of credit approximately $10.0 million. During the nine months
ended December 31, 2003, the Company increased its borrowings under the revolving
line of credit approximately $31.3 million.

During
the nine months ended December 31, 2004, the Company paid $9.9 million to
repurchase approximately 1.0 million shares of the Companys common stock at an
average price of $9.91 per common share. During the nine months ended
December 31, 2003, the Company paid $5.6 million to repurchase approximately
1.0 million shares of the Companys common stock at an average price of
$5.92 per common share.

Proceeds
received from the exercise of stock options were approximately $3.8 million and
$1.5 million during the nine months ended December 31, 2004 and 2003,
respectively.

Capital Resources

Senior management and the Board of
Directors determine the amount of capital resources that the Company maintains. Management
allocates resources to new long-term business commitments when returns, considering the
risks, look promising and when the resources available to support the existing business
are adequate.

The Companys two primary
sources of capital are the proceeds from the 2.25% convertible senior notes offering and
the revolving line of credit. These instruments furnish the financial resources to support
the business strategies and customer service levels in a time of rapid revenue growth. The
revolving line of credit, which is an asset-based agreement, uses the strength of the
Companys working capital as collateral to support necessary liquidity. Over the
long-term, the Companys priorities for use of capital are internal growth,
acquisitions, and repurchase of the Companys common stock.

On December 31, 2004, the
Company maintained a $200 million revolving line of credit. Availability of
borrowings under the revolving line of credit depends upon the amount of a borrowing base
consisting of accounts receivable and inventory, subject to satisfaction of certain
eligibility requirements. At December 31, 2004, the Company had sufficient assets
based on eligible accounts receivable and inventories to borrow up to $191.9 million
under the revolving line of credit and had outstanding borrowings of $25.0 million.

As discussed in Note 10,
Purchase Business Combinations, on October 7, 2004 the Elder Care Business
acquired certain assets and assumed certain liabilities of a long-term care medical supply
distributor. The maximum aggregate purchase price is approximately $26.5 million,
subject to certain adjustments as set forth in the purchase agreement, of which
approximately $19.8 million was paid in cash at the closing and was funded by cash on
hand. Pursuant to the terms of the purchase agreement, the remaining purchase price of up
to $5.6 million will be paid to the Seller by April 30, 2005 if minimum revenue
thresholds are met in future periods and final working capital balances as of the closing
date are validated and settled.

As discussed in Note 13,
Subsequent Event, the Company entered into a Sourcing Services Agreement, dated as
of January 19, 2005 (the Sourcing Agreement), with Tiger Specialty
Sourcing Limited, Tiger Shanghai Specialty Sourcing Co. Ltd., Mark Engle, Elaine Fong, and
Dr. Gao Zhan (collectively Tiger Medical). The exclusive Sourcing Agreement
focuses on two primary objectives  deliver consistent, high-quality medical products
and improve supply chain efficiencies for healthcare customers in the United States.
Subject to the terms and conditions of the Sourcing Agreement, the Company has agreed to
purchase certain medical and other products from Chinese suppliers and manufacturers using
the exclusive sourcing services of Tiger Medical. Pursuant to the terms of the Sourcing
Agreement, the Company made an initial equity investment of $1.0 million in Tiger
Medical on January 25, 2005. The Company ultimately has the right to increase its
ownership

43

interest in Tiger Medical to 100% during fiscal years 2006 through 2009 if
certain performance targets are achieved. The total purchase price to be paid by the Company for 100%
ownership of Tiger Medical ranges between $1.0 million and $32.5 million and
depends on the satisfaction of certain performance targets. Any investments made by the
Company during fiscal years 2006 through 2008 will be credited against the final purchase
price to be paid by the Company. If at any time during the term of the Sourcing
Agreement, the Company achieves the agreed-upon cost of goods savings target in any
twelve-month period prior to achieving the agreed-upon sales target, then either party
has the right to trigger an early buy-out of Tiger Medical by the Company.

As the Companys business grows,
its cash and working capital requirements will also continue to increase. The Company
normally meets its operating requirements by (i) maintaining appropriate levels of
liquidity under its revolving line of credit and (ii) using cash flows from operating
activities. The Company expects that the overall growth in the business will be funded
through a combination of cash flows from operating activities, borrowings under the
revolving line of credit, capital markets, and/or other financing arrangements. As of
December 31, 2004, the Company has not entered into any material working capital
commitments that require funding, other than those obligations disclosed in the future
minimum obligation table below.

2.25% Convertible Senior
Notes

On March 8, 2004, the Company
sold $150 million principal amount of 2.25% convertible senior notes, which mature on
March 15, 2024. Interest on the notes is payable semiannually in arrears on
March 15 and September 15 of each year. Contingent interest is also payable
during any six-month interest period, beginning with the six-month interest period
commencing on March 15, 2009, if the average trading price of the notes for the five
trading days ending on the second trading day immediately preceding such six-month
interest period equals or exceeds 120% of the principal amount of the notes. The amount of
contingent interest payable per note in respect of any six-month interest period is equal
to 0.25% of the average trading price of a note for the trading period referenced above.

The notes may be converted into
shares of the Companys common stock under the following circumstances:
(i) prior to March 15, 2019, during any calendar quarter that the closing sale
price of the Companys common stock for at least 20 of the 30 consecutive trading
days ending the day prior to such quarter is greater than 120% of the applicable
conversion price of $17.10 per share; (ii) if on any date after March 15,
2019, the closing sale price of the Companys common stock is greater than 120% of
the then applicable conversion price; (iii) during the five consecutive business day
period following any five consecutive trading day period in which the trading price for a
note for each day of that trading period is less than 98% of the closing sale price of the
Companys common stock on such corresponding trading day multiplied by the applicable
conversion rate, provided that if the price of the Companys common stock issuable
upon conversion is between 100% and 120% of the applicable conversion price, then holders
will be entitled to receive upon conversion only the value of the principal amount of the
notes converted plus accrued and unpaid interest, including contingent interest, if any;
(iv) if the Company has called the notes for redemption; (v) during any period
in which the Companys long-term issuer rating assigned by Moodys Investor
Services (Moodys) is at or below Caa1 or the corporate credit rating
assigned by Standard & Poors Ratings Services, a division of McGraw Hill
Companies, Inc. and its successors (S&P), is at or below B-, or if the
Company is no longer rated by at least one of S&P or Moodys; or (vi) upon
the occurrence of specified corporate transactions described in the indenture governing
the notes. The initial conversion rate is 58.4949 shares of common stock per each $1 (in
thousands) principal amount of notes and is equivalent to an initial conversion price of
$17.10 per share. The conversion rate is subject to adjustment if certain events occur,
such as stock dividends or other distributions of cash, securities, indebtedness or
assets; stock splits and combinations; issuances of rights or warrants; tender offers; or
repurchases. Upon conversion, the Company has the right to deliver, in lieu of common
stock, cash or a combination of cash and common stock. The Companys stated policy is
to satisfy the Companys obligation upon a conversion of the notes first, in cash, in
an amount equal to the principal amount of the notes converted and second, in shares of
the Companys common stock, to satisfy the remainder, if any, of the Companys
conversion obligation. Once the Companys stock price reaches $17.10, the dilutive
effect of the convertible notes may be reflected in diluted earnings per share by
application of the treasury stock method. By application of the treasury stock method, a
range of approximately 0 to 1.5 million shares (at a stock price range of $17.10
(conversion price) to $20.51(market price trigger)) will be included in the weighted
average common shares outstanding used in computing diluted earnings per share because of
the Companys stated policy to settle the principal amount of the convertible senior
notes in cash.

Revolving Line of Credit

The Company maintains an asset-based
revolving line of credit by and among the Company, as borrower thereunder (the
Borrower), the subsidiaries of the Company, the lenders from time to time
party thereto (the Lenders), and Bank of America, N.A. (the Bank),
as agent for the Lenders (the Credit Agreement), which permits maximum
borrowings of up to $200 million and matures on March 31, 2008. Availability of
borrowings depends upon a borrowing base calculation consisting of accounts receivable and
inventory, subject to satisfaction of certain

44

eligibility requirements. Borrowings under
the revolving line of credit bear interest at the Banks prime rate plus an
applicable margin based on the Companys funded debt to earnings before interest,
taxes, depreciation, and amortization (the Leverage Ratio), or at LIBOR plus
an applicable margin based on the
Leverage Ratio. Additionally, the Credit Agreement bears interest at a fixed rate of
0.375% for any unused portion of the facility. The average daily interest rate, excluding
debt issuance costs and unused line fees, for the three months ended December 31,
2004 and 2003 was 4.16% and 3.70%, respectively. The average daily interest rate,
excluding debt issuance costs and unused line fees, for the nine months ended December 31,
2004 and December 31, 2003 was 3.94%. Under the Credit Agreement, the Company and
its subsidiaries are subject to certain covenants, including but not limited to,
limitations on (i) paying dividends and repurchasing stock, (ii) selling or
transferring assets, (iii) making certain investments including acquisitions, (iv) incurring
additional indebtedness and liens, and (v) annual capital expenditures. Borrowings
under the revolving line of credit are anticipated to (i) fund future requirements
for working capital, capital expenditures, and acquisitions and (ii) issue letters
of credit.

From time-to-time, the Company has
amended the Credit Agreement to meet specific business objectives and requirements. The
Credit Agreement originally dated May 20, 2003 has been amended as follows:

The
First Amendment dated June 24, 2003 primarily finalized the syndication of the Credit
Agreement to the Lenders.

The
Second Amendment dated December 16, 2003 primarily increased the maximum borrowings
under the Credit Agreement from $150 million to $200 million. In addition, this
amendment redefined the applicable margin applied to the Banks prime rate or LIBOR.

The
Third Amendment dated March 1, 2004 obtained the Lenders approval to issue
additional indebtedness in the form of the convertible senior notes and to repurchase up
to $42.0 million of the Companys common stock, including any repurchases made
subsequent to May 20, 2003. In addition, this amendment locked the interest rate on
the Credit Agreement at the Banks prime rate or at LIBOR plus 2.00% for the period
of one year, concurrent with the Companys fiscal year 2005.

The
Fourth Amendment dated June 1, 2004 obtained the Lenders approval to increase
the aggregate amount of permitted stock repurchases from $42.0 million to
$55.0 million, which includes any stock repurchases made subsequent to May 20,
2003.

The
Fifth Amendment dated December 31, 2004 obtained the Lenders approval to
(i) extend the term of the agreement two years to March 31, 2008,
(ii) increase the aggregate amount of permitted stock repurchases from
$55.0 million to $80.0 million, which includes any stock repurchases made
subsequent to May 20, 2003, (iii) increase the aggregate amount of permitted
acquisitions from $50.0 million to $75.0 million, which includes any
acquisitions made subsequent to May 20, 2003, (iv) sets the applicable margin
level for Base Rate and LIBOR loans to -0.25% and 1.75%, respectively, for the period
beginning December 31, 2004 and ending March 26, 2005.

During the three months ended
June 30, 2003, the Company entered into an interest rate swap agreement to hedge the
variable interest rate of its revolving line of credit. Under the terms of the interest
rate swap agreement, the Company makes payments based on the fixed rate and will receive
interest payments based on 1-month LIBOR. The changes in market value of this financial
instrument are highly correlated with changes in market value of the hedged item both at
inception and over the life of the agreement. Amounts received or paid under the interest
rate swap agreement are recorded as reductions or additions to interest expense. In
accordance with Statement of Financial Accounting Standards (SFAS)
No. 133, Accounting for Derivative Instruments and Hedging Activities, SFAS
No. 138, Accounting for Certain Derivative Instruments and Certain Hedging
Activities, an amendment of FASB Statement No. 133, and SFAS No. 149,
Amendment of Statement 133 on Derivative Instruments and Hedging Activities, the
Companys interest rate swap agreement has been designated as a cash flow hedge with
changes in fair value recognized in accumulated other comprehensive income in the
accompanying consolidated balance sheets.

On July 19, 2004, the Company
elected to reduce the notional amount of the interest rate swap from $35 million to
$25 million. Accordingly, during the nine months ended December 31, 2004, the
Company reclassified a gain of $0.1 million from accumulated other comprehensive
income to interest expense related to the portion of the swap that was terminated.

As of December 31, 2004, the
swap carries a notional principal amount of $25 million and effectively fixes the
interest rate on a portion of the revolving line of credit to 2.195%, prior to applying
the Leverage Ratio margin discussed above. The swap agreement expires on March 28,
2006 and settles monthly until expiration. At December 31, 2004, the Company recorded
an unrealized gain, net of tax, of approximately $0.2 million for the estimated fair
value of the swap agreement in accumulated other comprehensive income in the accompanying
consolidated balance sheet. The unrealized loss at April 2, 2004 was immaterial.

45

Debt Rating

The Companys debt is rated by
nationally recognized rating agencies. Companies that have assigned ratings at the top end
of the range have, in the opinion of the rating agency, the strongest capacity for
repayment of debt or payment of claims, while companies at the bottom end of the range
have the weakest capability. Ratings are always subject to change and there can be no
assurance that the Companys ratings will continue for any given period of time.

The Company maintains ratings with
two leading corporate and credit rating agencies: Standard and Poors and
Moodys Investor Services. On December 3, 2003, the Company received a revised
outlook from Standard and Poors from stable to positive. Additionally, Standard and
Poors affirmed its corporate credit and senior secured debt rating of BB-. The
Company maintains a stable outlook from Moodys Investor Services and a senior
implied rating of Ba3 and a long-term issuer rating of B1.

Stock Repurchase Programs

On June 8, 2004, the
Companys Board of Directors approved a stock repurchase program authorizing the
Company to repurchase up to a maximum of 5% of its common stock, or approximately
3.2 million common shares. These repurchases depend upon market conditions and other
factors, and are to be made in the open market, in privately negotiated transactions, or
otherwise. During the nine months ended December 31, 2004, the Company repurchased
approximately 1.0 million shares of common stock under this program at an average
price of $9.91 per common share. During the nine months ended December 31, 2003,
the Company repurchased approximately 1.0 million shares of common stock under a
previously approved stock repurchase program at an average price of $5.92 per common
share.

Liquidity and Capital
Resource Outlook

Based on prevailing market
conditions, liquidity requirements, contractual restrictions, and other factors, the
Company may seek to retire its outstanding equity through cash purchases and/or reduce its
debt. The Company may also seek to issue additional debt or equity to meet its future
liquidity requirements. Such transactions may occur in the open market, privately
negotiated transactions, or otherwise. The amounts involved may be material.

Future Minimum
Obligations

In the normal course of business, the
Company enters into obligations and commitments that require future contractual payments.
The commitments primarily result from repayment obligations for borrowings under the
revolving line of credit, contractual purchase commitments, as well as contractual lease
payments for facility, vehicle, and equipment leases, and contractual payments under
non-competition agreements. The following table presents, in aggregate, scheduled payments
under contractual obligations for the Physician Business, the Elder Care Business, and
Corporate Shared Services (in thousands):

Fiscal Years

2005(remaining 3
months)

2006

2007

2008

2009

Thereafter

Total

Revolving line of credit(a)

$

600

$

2,900

$

2,900

$

27,900

$

--

$

--

$

34,300

2.25% convertible senior notes

1,688

3,375

3,375

3,375

3,375

200,625

215,813

Operating leases:

Operating

5,439

16,938

12,066

8,529

5,550

11,695

60,217

Restructuring

133

243

19

--

--

--

395

Non-competition agreements

166

36

35

28

28

58

351

Purchase commitments(b)

53

116

55

--

--

--

224

Total

$

8,079

$

23,608

$

18,450

$

39,832

$

8,953

$

212,378

$

311,300

46

(a)

The
revolving line of credit is classified as a current liability in accordance
with Emerging Issues Task Force No. 95-22, Balance Sheet
Classification of Borrowings Outstanding under Revolving Credit Agreements
That Include both a Subjective Acceleration Clause and a Lock-Box
Arrangement; however, the credit facility does not expire until March 31,
2008. The Company is not obligated to repay or refinance amounts
outstanding under the revolving line of credit until fiscal year 2008.
Interest expense has been estimated using current level borrowings
outstanding at current effective interest rates. Actual interest expense
may differ due to changes in interest rates or levels of borrowings.

(b)

If
the Physician Business or the Elder Care Business were to terminate a
contract with a private label vendor for any reason, the Company may be
required to purchase the remaining inventory of private label products
from the vendor, provided that, in no event would the Company be required
to purchase quantities of such products which exceed the aggregate amount
of such products ordered by the Company in the ninety day period
immediately preceding the date of termination. As of December 31,
2004, the Company has not terminated any contracts with a private label
vendor that had a material impact to the Companys results of
operations and financial condition.

APPLICATION OF CRITICAL
ACCOUNTING POLICIES

There has been no material change in
the Companys Critical Accounting Policies, as disclosed in the Annual Report on
Form 10-K for the fiscal year ended April 2, 2004 filed on June 14, 2004,
other than those discussed below.

Revenue Recognition

Physician Business

The Physician Business has two
primary sources of revenue: the sale of consumable products and the sale of equipment.

Revenue
from the sale of consumable products is recognized when products are shipped or delivered.
Revenue for these products is recorded at shipment since at that time there is persuasive
evidence that an arrangement exists, the price is fixed and determinable, and the
collection of the resulting accounts receivable is reasonably assured.

Revenue
from the sale of single deliverable equipment is generally recognized when the equipment
is shipped, unless there are multiple deliverables, in which case revenue is recognized
when all obligations to the customer are fulfilled. Obligations to the customer are
typically satisfied when installation and training are complete.

Customers have the right to return
consumable products and equipment. Sales allowances are recorded as a reduction of revenue
for potential product returns and estimated billing errors. Management analyzes sales
allowances quarterly using historical data adjusted for significant changes in volume and
business conditions, as well as specific identification of significant returns or billing
errors.

Elder Care Business

The Elder Care Business has four
primary sources of revenue: the sale of consumable products to skilled nursing home
facilities, assisted living facilities, and home care providers, the sale of consumable
products to Medicare eligible customers; the sale of equipment; and fees earned for
providing Medicare Part B billing services.

Revenue
from the sale of consumable products to skilled nursing home facilities, assisted living
facilities, and home care providers is recognized when products are shipped or delivered.
Revenue for these products is recorded at shipment since at that time there is persuasive
evidence that an arrangement exists, the price is fixed and determinable, and the
collection of the resulting accounts receivable is reasonably assured.

Revenue
from the sale of consumable products to Medicare eligible customers is recognized upon
estimated usage of the product. Revenue is recorded at the amounts expected to be
collected from Medicare, other third-party payors, and directly from customers. Revenue
for Medicare reimbursement is recorded based on government-determined reimbursement prices
for Medicare-covered items. Medicare reimburses 80% of the government-determined
reimbursement prices for reimbursable supplies and the remaining balance is billed to
either third-party payors or directly to customers. Reimbursement from Medicare is subject
to review by appropriate government regulators.

47

Revenue
from the sale of single deliverable equipment is generally recognized when the equipment
is shipped, unless there are multiple deliverables, in which case revenue is recognized
when all obligations to the customer are fulfilled.

Revenue
from providing Medicare Part B billing services on a fee for service or a full
assignment basis to Medicare eligible customers is recognized during the period the
supplies being billed to Medicare are delivered to patients.

Customers have the right to return
consumable products and equipment. Sales allowances are recorded as a reduction of revenue
for potential product and equipment returns, revenue adjustments related to actual usage
of products by eligible Medicare Part B patients, Medicare Part B reimbursement
denials, and billing errors. Management analyzes product returns and billing errors using
historical data adjusted for significant changes in volume and business conditions, as
well as specific identification of significant returns or billing errors. Management
analyzes revenue adjustments related to estimated usage of products by eligible Medicare
Part B patients and Medicare Part B reimbursement denials using historical
actual cash collection and actual adjustments to gross revenue for a certain period of
time. Additional allowances are recorded for any significant specific adjustment known to
management.

Consolidated sales allowances are
immaterial and generally represent less than 0.5% of gross sales during a three month
period.

Impairment of Goodwill,
Intangibles, and Other Long-Lived Assets

During the three months ended
December 31, 2004, the Company made non-solicitation payments to certain sales
representatives that will be tested annually or more frequently for impairment in
accordance with SFAS No. 144, Accounting for the Impairment or Disposal of
Long-Lived Assets, (SFAS 144). SFAS 144 requires that long-lived
assets, such as intangible assets subject to amortization, be reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount of an asset
may not be recoverable. Certain factors which may occur and indicate that an impairment of
non-solicitation agreements exists include, but are not limited to: (i) a change in a
states legal system that would impact any legal opinion relied upon when assessing
enforceability of the non-solicitation covenants, (ii) a decline in sales generated
by a sales representative below the amount that the non-solicitation was based upon,
(iii) death, or (iv) full retirement by the sales representative.

RECENT ACCOUNTING
PRONOUNCEMENTS

Refer to Note 1, Background
and Basis of Presentation, for a discussion of recent accounting pronouncements and
its impact on the Companys financial condition and results of operations.

ITEM 3. QUANTITATIVE
AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

The Company believes there has been
no material change in its exposure to market risk from that discussed in Item 7A in
the Annual Report on Form 10-K for the fiscal year ended April 2, 2004.

ITEM 4. CONTROLS
AND PROCEDURES

Evaluation of disclosure controls
and procedures. The Companys management, with the participation of the
Companys Principal Executive Officer and Principal Financial Officer, has evaluated
the effectiveness of the Companys disclosure controls and procedures (as defined in
Exchange Act Rule 240.13a-15(c)) as of the end of the period covered by this report
(the Evaluation Date). Based on the evaluation, the Principal Executive
Officer and the Principal Financial Officer have concluded that the Companys current
disclosure controls and procedures are effective.

Changes in internal controls.
There has been no significant change in the Companys internal control over financial
reporting identified in connection with the foregoing evaluation that occurred during the
last quarter and that has materially affected, or is reasonably likely to materially
affect, the Companys internal control over financial reporting. However, during the
fiscal quarter ended April 2, 2004, the following change in the Companys
internal control over financial reporting was identified, which materially affected, or is
reasonably likely to materially affect, the Companys internal controls over
financial reporting:

During
the quarter ended April 2, 2004, the Elder Care Business began the implementation of
the JD Edwards XE® platform. As of December 31, 2004, five of the Elder Care
Business full-service distribution centers were converted to this new application,
which has different and effective internal controls over financial reporting compared to
the effective controls of the old operating system. The implementation of this new
operating system at the remaining full-service distribution centers will continue through
fiscal year 2005 and is expected to be completed during the second quarter of fiscal year
2006.

48

PART II 
OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

See Note 11, Commitments and
Contingencies, of this Quarterly Report on Form 10-Q and Item 3 of the
Companys Annual Report on Form 10-K for the fiscal year ended on April 2, 2004.

ITEM 2. UNREGISTERED
SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

Issuer Purchases of
Equity Securities

On June 8, 2004, the
Companys Board of Directors approved a stock repurchase program authorizing the
Company, depending upon market conditions and other factors, to repurchase up to a maximum
of 5% of its common stock, or approximately 3.2 million common shares, in the open
market, in privately negotiated transactions, or otherwise. The Company did not repurchase
any stock during the three months ended December 31, 2004.

ITEM 6. EXHIBITS
AND REPORTS ON FORM 8-K

(a)
Exhibits required by Item 601 of Regulation S-K:

Exhibit
Number

Description

10.5

Asset Purchase Agreement, dated as of October 7, 2004, among the Company, each of the Company's
subsidiaries therein named, the Skoronski Corporation and Stephen M. Skoronski (Portions omitted pursuant to a request for confidential treatment - Separately filed with the SEC)

15

Awareness Letter from KPMG LLP

31.1

Rule 13a-14(a) Certification of the Chief Executive Officer

31.2

Rule 13a-14(a) Certification of the Chief Financial Officer

32.1

Section 1350 Certification of the Chief Executive Officer

32.2

Section 1350 Certification of the Chief Financial Officer

49

SIGNATURE

Pursuant to the requirements of the
Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized, in the City of Jacksonville,
State of Florida, on February 9, 2005.